## Annual Report 2021 ## BAE Systems plc baesystems.com ## Navigating our Annual Report ## Strategic Governance Financial ## report statements ### Overview 01-13 Directors’ report 114-18 8 Group accounts 197-267 Our purpose 01 Chairman’s letter 06 Chairman’s governance Preparation 198 letter 114 Our financial highlights 02 Chief Executive’s review 10 Consolidated income Board of directors 115 statement 201 Our business at a glance 04 Governance framework 118 Consolidated statement of comprehensive income 202 | Strategy and stakeholders 14-25 | | Applying theUK | | | --- | --- | --- | --- | | | | CorporateGovernance | Consolidated statement | | Our strategic framework 14 | Our investment proposition 20 | | | | | | CodePrinciples 120 | of changes in equity 203 | | Our business model 16 | The work of the Board 22 | | | | | | Governance disclosures 122 | Consolidated | | Our stakeholders 18 | | | balance sheet 204 | Board information 124 Consolidated cash flow Nominations Committee ### Performance 26-35 statement 205 report 125 Our markets 26 Our operational highlights 32 Notes to the Audit Committee report 129 Group accounts 206 Our key programmes Our investment Environmental, andfranchises 30 in technology 34 SocialandGovernance ### Company accounts 268-275 Committee report 134 ### Sustainability – Environmental, Company statement Innovation and Technology ### Social and Governance 36-67 of comprehensive income 268 Committee report 138 Our agenda Technology 48 Company statement Remuneration Committee and governance 36 ofchangesin equity 268 report 139 Social 50 Climate change and Company balance sheet 269 Annual remuneration Governance 64 theenvironment 38 report at a glance 143 Notes to the Company accounts 270 Annual remuneration ### Financial and segmental review 68-103 report 145 ### Shareholder Group financial review 68 Platforms & Services (US) 86 Directors’ remuneration ### information 276 policy 168 Guidance for 2022 76 Air 90 Statutory and other Financial glossary 78 Maritime 94 information 184 Segmental review 81 Cyber & Intelligence 98 ### Electronic Systems 82 Segmental looking forward 102 Auditor’s report 189-196 Independent Auditor’s ### Risk 104 -113 report 189 How we manage risk 104 Our principal risks 107 Our risk management framework 106 Cautionary statement: All statements other than statements of historical fact included in this document, including, without limitation, those regarding the financial condition, results, operations and businesses of BAESystems and its strategy, plans and objectives and the markets and economies in which it operates, are forward-looking statements. Such forward-looking statements, which reflect management’s assumptions madeon the basis of information available to it at this time, involve known and unknown risks, uncertainties andother important factors which could cause the actual results, performance or achievements of BAESystems orthe markets and economies in which BAESystems operates to be materially different from future results, performance or achievements expressed or implied by such forward-looking statements. BAE Systems plc and itsdirectors accept no liability to third parties in respect of this report save as would arise under English law. Accordingly, any liability to a person who has demonstrated reliance on any untrue ormisleading statement or omission shall be determined inaccordance with Schedule 10A of the Financial Services and Markets Act 2000. Itshould be noted that Schedule 10A and Section 463 ofthe Companies Act 2006 contain limits on the liability of the directors of BAE Systems plc so thattheir liability is solely to BAE Systems plc. Strategic report Financial statementsGovernance ## Our purpose ### We have an important role in society because we: ## At BAE Systems we – help our customers to provide security and safety; ## serve, supply and – contribute to the economic prosperity of the places whereour people live and work; ## protect those who – support high value jobs in our business and in our supplychains; ## serve and protect us, – value our people and their diversity so they can fulfil their potential in an inclusive and supportive working environment; ## ina corporate culture – seek to identify opportunities for individuals from disadvantaged backgrounds; ## that is performance – support employees’ rights in relation to freedom ofassociation; ## driven and values led. – inspire and excel in the work we do – the technologies wedevelop and the talent we build; – develop cutting-edge technologies to sustain the competitive strength of the Company in global markets; – create best-in-class products and services by forging strongrelationships with our suppliers and partners; – care for and support our local communities; and – use our knowledge and technologies to reduce the environmental impacts of our activities. We have set ourselves the target of achieving net zero greenhouse gasemissions across our operations by 2030. ## Through careful long-term sustainable management ## and governance ofour business we will continue to ## create value for our stakeholders. ### How our purpose connects How our purpose connects ## to our strategy to our culture – We never lose sight of who are the users of our products – We are proud of the work we do to serve and equip those andservices – often members of the armed forces and security whoprotect us. We know our customers rely on us so we services – and the critical work they do to keep us safe. constantly innovate and go the extra mile in the products that wemake, the quality we deliver and the services we offer. – Our strategy sets out our actions for investing in the long-term future of the Company based on driving operational excellence, – We recognise we are entitled to nothing and must earn everything. continuously improving our competitiveness and efficiency, and – We are accountable for all that we do and seek to do the right advancing and further leveraging our technology. By doing this thing at all times. wewill fulfil the needs of customers and build a sustainable – Our culture values diversity and rewards integrity and merit future for our business for the benefit of our stakeholders. sothateveryone can fulfil their potential. Page 14 – The safety and wellbeing of our employees is paramount. Our strategic framework – Wehave a deep commitment to supporting the communities inwhich we work and to reducing the environmental impacts ofouractivities. – At the heart of our business we are performance driven and valuesled. Page 18 Our stakeholders BAE Systems plc Annual Report 2021 01 Strategic report ## Our financial highlights ## We monitor the underlying financial performance of the Group using the alternative ## performance measures defined in the Financial glossary on page 78. These measures 1 2 ## arenotdefined in IFRS and, therefore, are considered to be non-GAAP measures. 1 ## Accordingly, the relevant IFRS measures are also presented where appropriate. 3 ## Financial performance measures as defined by the Group Sales Net debt (excluding lease liabilities) KPI BONUS KPI 4 ## £21,310m 5% growth £ ( 2,160 ) m £558m decrease 2021 21,310 2021 ( 2,160 ) 2020 20,862 2020 ( 2,718 ) | | 5 | | | 8 | | | | --- | --- | --- | --- | --- | --- | --- | | Underlying EBIT | | | Order intake | | | | | | | KPI | | | BONUS | KPI | 4 ## £2,205m 13% growth £21,458m £543m increase 2021 2,205 2021 21,458 2020 2,037 2020 20,915 | | | 5,6 | | 8 | | --- | --- | --- | --- | --- | | Underlying earnings per share excluding one-off tax benefit | | | Order backlog | | | | BONUS | KPI | | | Including 2021 one-off tax benefit 4 ## 47.8p 12% growth 50.7p £44.0bn £1.2bn decrease 2021 47.8 50.7 2021 44.0 2020 44.3 2020 45.2 7 Free cash flow KPI KPI References to Key Performance Indicators(KPIs) throughout the AnnualReport. ## £1,864m £497m higher BONUS 2021 1,864 75% of the UK executive directors’ annual bonuses are 2020 1,367 based on the achievement of financial KPIs (see page 157). 02 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## Financial performance measures derived from IFRS¹ Revenue £19,521m 1% growth | PERM | 19,521 | | --- | --- | | ROE | 19,277 | Order book⁹ £35.5bn £0.8bn decrease | PERM | 35.5 | | --- | --- | | ROE | 36.3 | Operating profit £2,389m 24% growth | PERM | 2,389 | | --- | --- | | ROE | 1,930 | Group's share of the net post-employment benefits deficit £(2.1)bn £2.4bn decrease | PERM | (2.1) | | --- | --- | | ROE | (4.5) | Basic earnings per share 55.2p 36% growth | PERM | 55.2 | | --- | --- | | ROE | 60.7 | Dividend per share¹⁰ 25.1p 6% growth | PERM | 25.1 | | --- | --- | | ROE | 23.7 | Net cash flow from operating activities £2,447m £1,281m higher | PERM | 2,447 | | --- | --- | | ROE | 1,166 | 1. International Financial Reporting Standards. 2. Generally Accepted Accounting Principles. 3. The purposes and definitions of non-GAAP measures are provided in the Financial glossary on page 78. 4. Growth rates for Sales, Underlying EBIT and Underlying EPS are on a constant currency basis (i.e. current year compared with prior year translated at current year exchange rates). All other growth rates and year-on-year movements are on a reported currency basis. 5. With effect from 2021, the Group adopted the underlying EBIT profitability measure in place of the underlying EBITA measure. Further details are provided in the Financial glossary on page 78. 6. The one-off tax benefit in 2021 is described on page 71. Growth rate disclosed excludes the impact of the 2021 one-off tax benefit. 7. 2020 Free cash flow of £1,367m is before a £1bn UK pension scheme contribution. 8. Including share of equity accounted investments. 9. Order book represents the transaction price allocated to unsatisfied and partially satisfied performance obligations as defined by IFRS 15 Revenue from Contracts with Customers. 10. The 2020 dividend per share of 23.7p is in respect of the year ended 31 December 2020. An interim dividend of 13.8p per share was paid in 2020, in respect of the year ended 31 December 2019, having been proposed as a 2019 final dividend but deferred in light of the pandemic. BAE Systems plc Annual Report 2021 03 Strategic report ## Our business at a glance ## BAE Systems has strong, established positions in the air, ## maritime, land and cyber domains. ## Air Maritime | | 1 | | 1 | | --- | --- | --- | --- | | Sales | by | Sales | by | | domain | | domain | | ## 55% 24% | – Manufacture, development, | – Design, manufacture and | – Design and manufacture | – Design and delivery of | | --- | --- | --- | --- | | upgrade and in-service support | support of advanced electronics | ofsubmarines | trainingsystems and services | | of Typhoon combat aircraft | forcommercial aircraft | – Design and manufacture | for maritime platforms | | – Workshare partner for the | – Development of next-generation | ofcomplex warships | andequipment | | design and manufacture of | unmanned and future air system | – Provision of naval ship repair | – Acquisition of Techmodal | | major sub-assemblies and | capabilities under the Tempest | and modernisation services | business supports the Group’s | | systems, and provision of | programme, and defence | inthe US | digital and data capabilities | | support for F-35 Lightning II | information systems | | | – Provision of in-service support combat aircraft – In-service support of Tornado to surface ships and facilities – Design, manufacture and combat aircraft management in the UK support of advanced defence – Manufacture, upgrade and – Design, manufacture and electronics equipment for in-service support of Hawk support of naval gun systems, military aircraft, which enable trainer aircraft torpedoes, radars, and naval next-generation threat – Design and manufacture of command and combat systems detection, countermeasure and missiles and missile systems attack, a global leader in through a 37.5% interest electronic warfare systems inMBDA | | 1 | | | 1 | | | --- | --- | --- | --- | --- | --- | | Sales | by line of business (%) Sales | | | by line of business (%) | | | | | | A Typhoon 27% | | A Submarines 33% | | | | H | B F-35 Lightning II 14% | | B Complex warships 18% | | | F G | | C Defence electronics 24% | E | C US naval ship repair 13% | A D Tornado 13% A D UK naval support 11% E E Commercial avionics 4% E Other 25% F Weapon systems 12% D G Hawk 2% D B H Other 4% C B C | | 1 | | | 1 | | | 1 | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | Sales | by destination Sales | | | by activity Sales | | | by reporting segment | | | | | | | | D | | | E | | | | E | | A | BAE Systems has leading positions | | A | BAE Systems has a diverse | | A | BAE Systems reports its | D in its principal markets – the portfolio, broadly balanced performance through five D US,UK, the Kingdom of Saudi between an enduringservices principal reporting segments. Arabiaand Australia – as well as and support business, long-term B C established positions in a number platform and product programmes, of other international markets. B electronic systems, andactivities C B in cyber and intelligence. | A US 43% | A Platforms 41% | A Electronic Systems 21% | | --- | --- | --- | | B UK 20% | B Military and technical services and support 32% | B Platforms & Services (US) 16% | | C Saudi Arabia 12% | C Electronic systems 21% | C Air 39% | | D Australia 4% | D Cyber 6% | D Maritime 16% | | E Other international markets 21% | | E Cyber & Intelligence 8% | C 04 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ## Land Cyber | | 1 | | 1 | | --- | --- | --- | --- | | Sales | by | Sales | by | | domain | | domain | | ## 16% 5% – Design, manufacture, upgrade – Design and manufacture of – Supply of cyber, intelligence and support oftracked and artillery systems andmissile and security capabilities to amphibious combat vehicles launchers for US, UK and USgovernment agencies – Manufacture of ammunition otherarmed forces – Supply of cyber, intelligence and precision munitions for – Development and demonstration and security capabilities US,UK and other armed forces of autonomous and unmanned toUKand other – Design and manufacture of capabilities governmentagencies electric drive propulsion systems – Supply of defence-grade cybersolutions for the commercial market | | 1 | | 1 | | | --- | --- | --- | --- | --- | | Sales | by line of business (%) Sales | | by line of business (%) | | | | | A Combat vehicles 52% | | A US government 48% | | | | B Munitions 21% | | B UK and other governments 39% | C D C Commercial 5% C Commercial 13% D Weapon systems/other 22% A C A B B 1 Page 26 Page 68 Employees by reporting segment 2021 sales Our markets Group financial review F E A BAE Systems employs a skilled 2 Page 30 Page 81 workforce of 90,500 people Our key programmes Segmental review ## D B inmore than 40 countries. £21,310m and franchises Page 36 Sustainability – Environmental, Social and Governance C 2021 revenue 1. Sales is an Alternative Performance Measure A Electronic Systems 16,400 asdefined by the Group, being Revenue plus B Platforms & Services (US) 12,300 theGroup’s share of revenue ofequity accounted investments, excluding subsidiaries’ revenue C Air 29,700 ## £19,521m fromequity accounted investments. Note 1 to D Maritime 18,200 thefinancial statements on page 208 provides E Cyber & Intelligence 9,600 areconciliation to the IFRS Revenue measure. F HQ/other 4,300 2. Including share of equity accounted investments. 2 Total employees 90,500 BAE Systems plc Annual Report 2021 05 Strategic report ## Chairman’s letter ## Whilst the pandemic continued to challenge all businesses, I am pleased to confirm ## that BAE Systems proved to be robust and resilient in rewarding our stakeholders ## through strong operational performance delivering attractive financial outcomes. ## First and foremost, we help ## governments fulfil their prime ## responsibility to provide security ## and safety for their countries ## andcitizens. ### Sir Roger Carr ### Chairman ### I cannot thank enough our people across Our commitment to national security Our commitment to the globe, who, under the leadership ### First and foremost, we help governments educationandtraining ofCharles Woodburn, Tom Arseneault fulfil their prime responsibility to provide We are closely aligned with government andBrad Greve, continued to work with security and safety for their countries priorities in the markets where we operate, enthusiasm and determination in the andcitizens. We are proud of the work on education, skills training, a fairer faceofongoing adversity to ensure wedo to serve and equip those that serve distribution of opportunity and a focus wesupported our stakeholders the and protect us, and we do so by being onan environmental agenda that preserves worldover. performance driven and values led. the planet for us all. My hope is that in 2022, vaccine In discharging our responsibilities, we adhere We are leading advocates in correcting programmes which protect somany, to the rules and laws of one of the most thefalse perception that apprenticeships willenable us all to return to morenormal tightly regulated industries in the world. aresomehow a second-class achievement conditions, remembering the lessons when compared with a university degree learned, but energised by the opportunities Our government work is with governments –emphasising that skilled apprenticeship of the better days to come. who are partners and allies of the UK and qualifications are invaluable, opportunity theUS, notably in the Gulf and Australia. It is also clear, that the pandemic has enriching, economically important, and We build advanced warships, submarines, emphasised the importance of business akey driver of social mobility. land vehicles and military aircraft in addition inadvancing the Environmental, Social to supporting our customers with first-class I see this every day in our business, where andGovernance (ESG) agenda that is service and cyber capabilities. inthe UK in recent years we have hired vitalto all our sustainable futures. For around 800 apprentices per year and in thatreason, I felt it would be helpful for In all cases we have a multi-dimensional 2021 over a quarter of these were selected meto summarise what I believe to be the relationship. A competitive supplier, a partner from the more socially disadvantaged parts important role that BAE Systems has in in projects, toe-to-toe in competitive bids, of the community. We see them grow into delivering security, prosperity and a fairer arm-in-arm in new product development, accomplished and confident people, who society in the communities we serve. hand-in-glove in trade missions, always become valued and immediate contributors conducting our business with ethics at the to the economy. top of our ownagenda. 06 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance In this regard, our investment of around £90m ineducation and skills last year alone, continues to provide us with a pipeline of talent for the future and a remarkable return on our investment in human capital. There is little doubt that education and training is the first step on the road to international competitiveness, but it is alsoan unquestionably important driver ofsocial change. Levelling up is a UK government objective,and fairness is a driving force inallour communities. Talent is not theexclusive preserve of one particular regionand we recognise that it is a resourcethat we nurture to ensure thatasacompany we are comfortable inour own skin, and as a business we areacompetitive entity with a sustainablefuture. ### Our commitment to ### economicprosperity Sir Roger Carr with Our engineering and manufacturing employees during a visit capabilities in the UK are concentrated atPortsmouth Naval Base. inthe north west of England with more than 20,000 highly skilled people, totally committed to designing, developing and building for some of the world’s most advanced military aircraft, the Typhoon andF-35, based in Warton and Samlesbury, and in parallel, nuclear submarines in Barrow-in-Furness. Indeed, at BAE Systems alone we made anannual contribution to UK 2020 GDP ofover £10bn, delivering just under £4bn inexports and resulting in the employment of 143,000 people directly and indirectly through a network of 5,000 suppliers. Our manufacturing capabilities are across the UK. InScotland we are building the Dividend per share Type 26 frigate, a design developed in | theUK andnow adopted by Australia | | | | | | 25.1 | | --- | --- | --- | --- | --- | --- | --- | | andCanada,reflecting the quality of | | | | 23.7 | 1 | | | | | 23.2 | 1 | | | | | Britishskillsand engineering. | 25.1p | | | | | | 22.2 21.8 Internationally, the US represents 46% ## ofour revenues, employing 31,000 people 6% growth coast to coast, in advanced electronics, military vehicle production, ship repair andcyber. In Australia, we are building Hunter Class frigates – an advanced anti-submarine warship made by Australians for Australians, in a world-class shipyard funded by the Australian government. To these major centres of production, weadd military jet assembly in the Gulf andapartnership in India, all delivering high-quality jobs and state-of-the-art products and services to provide our 2020201920182017 2021 customers with military capabilities thataresecond to none, and to contribute 1. 2020 does not include the interim dividend paid of13.8p per share paid in September in respect to their economies as a result of our of2019 performance. This amount is reflected inthe 2019dividend history. long-term relationship. BAE Systems plc Annual Report 2021 07 Strategic report ## Chairman’s letter continued | Our commitment to sustainability | Our commitment | Summary | | --- | --- | --- | | We recognise that if we wish to win | togoodgovernance | As a company our collective mindset is | | thesupport of our stakeholders we know | All of this work is overseen by a first-class | ofimmense pride in what we do, rigour | | wemust show leadership, not simply in | Board which I am privileged to chair. We | inhow we do it, people above profit, | | theproducts we deliver, but the values | arecurrently 14 in number with ahealthy | ethicsabove outcomes, and safety above | | wedemonstrate. | mix of age, gender, experience, ethnicity | everything. We care deeply about how | | | and nationality. | wemake money and not simply how | We supported COP26 and have set muchmoney we make. | ourselves a 2030 net zero greenhouse | In compliance with the UK government’s | | | --- | --- | --- | | gasemissions target. Within BAE Systems, | Special Share requirements a majority of the | It is with these firm beliefs and considerable | | Charles Woodburn, as Chief Executive | Board and our Chief Executive are British | endeavours that we have delivered sales of | | Officer, is the thought leader and prime | nationals. We also meet the targets set by | £21.3bn, underlying earnings of 47.8p per | | driver of this important target and the | the Hampton-Alexander and Parker reports | share, underpinned by an order backlog of | | Group has responded to his direction with | with regard to gender and ethnic diversity. | £44.0bn and free cash flow of £1,864m. | energy and enthusiasm. | | The skillset is a broad mix of finance, | This has enabled the Board to recommend | | --- | --- | --- | | For us all, ESG is not an optional extra in | operations, HR, strategy and AI. All have | afinal dividend of 15.2p for a total of 25.1p | | theway we do business. Protecting the | earned their place on merit. Four have been | forthe full year. Subject to shareholder | | environment is mission-critical and engaging | recruited in the last 12 months as part of | approval at the May 2022 Annual General | | with our communities an essential part | normal succession planning with one | Meeting, the dividend will be paid on 1 June | | ofour business model, with diversity | further appointment to be made in 2022. | 2022 to holders of ordinary shares | | andinclusion firmly baked into the DNA | | registered on 22 April 2022. | In recognition of our unique position in the ofthe Group. US, where we are a top ten prime contractor | As I reflect on the last 12 months, there is | to the US Department of Defense, our | | | --- | --- | --- | | no doubt that COVID-19 has reinforced our | governance structure is augmented by the | | | commitment to the societies in which we | BAE Systems, Inc. board, which is populated | | | operate and the importance of relationships | by leading figures formerly from the US | | | with colleagues and communities on which | government and military and intelligence | | | we depend. | communities who ensure all that we do | | | | inthe US is aligned with the needs and | Sir Roger Carr | Internally we have revised our ### requirements of the nation. Chairman communication methods using technology to connect with greater informality and It is against this background of multi-layer increased regularity across the organisation. oversight, high quality board membership, This has supplemented the traditional and importantly, total commitment to best interaction theBoard has with our practice, that I am confident our business colleagues through town halls, site visits isgenuinely performance driven and and trades union gatherings which were valuesled. limited through thepandemic, but are nowreturning as restrictions are lifted. Whatever challenges COVID-19 may have brought to our business, adversity has undoubtedly brought us all much closer together – a lasting benefit from a difficult period which we are determined will not fade as better times return. Work inside our Factory of the Future, in Warton, UK, which is being designed to enable a radically different approach to the design and manufacture of complex combat air systems. 08 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Our social ## andeconomic ## impact in ## Barrow-in-Furness | The challenge | Our contribution | | --- | --- | | Barrow-in-Furness is a town in Cumbria, | – Through the Movement to Work | | North West England and home to our | programme, we have offered in | | Submarines shipyard. It is a small, densely | excess of170 placements to young | | populated and relatively deprived area | unemployed people in Barrow, | | with some of the poorest health | approximately two-thirds of whom | | outcomes in Cumbria. Approximately | have transitioned onto | | 29% of Barrow’s working age | apprenticeshipprogrammes. | population is employed at our shipyard. – Wework with local partners to deliver awide range of activities Our business requires the local area to across different stages of education. provide people with the right skills and This has included supporting the behaviours to deliver our business plan Furness Education Trustsince its and a supply chain that is efficient, inception in 2009, with £400,000 in effective, responsive and flexible. In order funding as well as ongoing in-kind to achieve this, the right social, economic support, which have contributed and environmental conditions must be tothe Trust moving from OFSTED present. The health and prosperity of the ‘Special Measures’ to ‘Good’ and local area is a unique strategic imperative increasing student entry numbers and crucial to our business success. by184% over that period. To support this we collaborate with – As a key stakeholder in the ‘Town partners and create a strategic and Deal’ partnership, we have worked proactive approach to help overcome with a number of local partners to local challenges. develop atown investment plan, Our commitment which resulted in a successful application for £25m ofgovernment The challenges faced in the local area funding to improve thelocal area. are, and will remain, significant. They The plan includes the creation of willrequire a long-term, evidence- a£10.4m Barrow Learning Quarter, based, collaborative and well-resourced consisting of a new university campus response, but the initial indicators of and the establishment of a number the effectiveness of Submarines’ ofCommunity Resilience Hubs. involvement are encouraging. Please also see details of the unclaimed asset – We have supported the local programme on pages 62 and 63. BarrowDock Museum project which helped attract £900,000 of further investment. We funded a counselling service with the Cumbria Alcohol andDrugs Advisory Service to provide support to those who signal they mayhave a drug or alcoholproblem. 09BAE Systems plc Annual Report 2021 Strategic report ## Chief Executive’s review ## During 2021, we delivered a strong set of financial results, progressed our ## strategic objectives and accelerated our Environmental, Social and Governance ## (ESG) ambitions, all against a continuing challenging backdrop. ## Through a continuous drive on ## operational performance and with ## progress on our strategic objectives, ## we are well placed to deliver a ## long-term sustainable business ## andgenerate shareholder value. ### Charles Woodburn ### Chief Executive ### Overview We delivered a strong set of financial We have long-term strength from our results across all our key measures as programmes, technologies and customer At the start of 2021, we set out a refreshed positive momentum from last year was relationships, with continued demand investment case reflecting the Group today, maintained on operational and cash flow forour products and services and we our competitive advantages, operational performance, enabling us to increase our areleveraging our leading capabilities focus areas to accelerate our evolution, returns to shareholders through a higher inevolving markets. We take great pride andthe financial outputs we are seeking dividend and also through the buyback inour rolenot only in supporting national todrive. Against the backdrop of the programme announced in July 2021. security, but also in contributing to the ongoing global pandemic and associated Thisreflects our confidence in the outlook economic prosperity ofthe countries in global macro impacts, I am pleased at the and our ongoing focus on a balanced which we operate. progress we have made against these key andefficient capital allocation policy of operational themes. Our geographically diverse portfolio is investing in the business and shareholder aligned with growing defence budgets and Thanks to the outstanding efforts of returns. The Group maintained its strong as expected, the near-term Brexit impacts ouremployees we have been resilient sales balance between production and across the business have been limited. andagile in adapting to the ever-evolving aftermarket services. Thisgeographic mix, the programme spread environment, to address and meet Our strategy remains consistent and and longevity of the positions mean we customer requirements. isdelivering results. This year we have arenot overly dependent onasmall focused on our operational performance, number ofprogrammes. These are key continued to invest in technology, made factors in our resilience against a number progress on our competitiveness and ofglobal macro challenges and also accelerated our sustainability agenda. underline the strength of our outlook. 10 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | Safety and wellbeing | ESG | 2021 operational performance | | --- | --- | --- | | The safety and wellbeing of our employees | 2021 has been about evolving, accelerating | Execution on the key strategic objectives | | is paramount and it remained our primary | and integrating our sustainability agenda | ofoperational excellence, competitiveness | | consideration as we continued to manage | which is fundamental to our business | and technological innovation is vital for | | our response to the global pandemic | performance. It aligns stakeholder | thesuccessful delivery of our order | | throughout the year. Our response | prioritieswith the Group’s ESG risks | backlog,to deliver future growth and | | highlighted the positive societal impact | andopportunities so that we can drive | ahigh-performing sustainable business. | | thisbusiness can bring as we deployed | thesuccess of the Company for the | | Continually pushing operational ourcapabilities, people and time, and benefitof our stakeholders. performance improvement is central to worked with our supply chains to support We recognise that the way we do business ourstrategy to ensure delivery of our order our communities and health services. I am and the actions and behaviours we backlog and improvements in long-term hugely proud of how our employees demonstrate are vital for the future strength cash generation. responded to the day-to-day challenges. of our business and we want to continue to The strength of the relationships and We have been pleased with our operational increase our ambitions and accelerate our collaborative working with our customers, performance in 2021 and it is a great progress. We made some real strides in suppliers and trades unions has been testament to our people that we can talk 2021 as laid out in detail in the Sustainability exceptional and a huge testament to about an almost ‘normal’ delivery given – Environmental, Social and Governance all.Like all businesses, we experienced theenvironment in which we have been section on pages 36 to 67, with some challenges during this pandemic. We have operating over the last two years. We will notable highlights being: setting ourselves had to be agile and adapt, and make look to make further improvements and the target of achieving net zero greenhouse difficult decisions, but thanks to the early ourincreasing confidence in our programme gas emissions across our operations by actions we took to enhance the resilience execution capabilities underlines our 2030and joining the United Nations ofour business and the remarkable outlook for sales growth, margin expansion ‘Raceto Zero’ campaign; driving a bolder fortitude of our people, we have continued and our rolling three-year cashtargets. set of diversity ambitions tobe recognised to deliver on our customers’ priorities whilst as a leading employer in defence and Electronic Systems delivered another year also supporting the social needs of our security for valuing diversity and inclusion; ofgrowth and good programme execution. governments and communities. | | committing to cease handling white | Sales were up 5% but were held back in | | --- | --- | --- | | As we worked to strengthen our culture | phosphorus; and gaining accreditation as | thelast quarter as the Omicron surge | | ofsafety, we faced additional challenges | areal living wage UK employer. All are | tightened an already pandemic-constrained | | from the pandemic, which has required | examples of accelerated progress achieved | labour market, and caused some supply | | significant changes in how we work. | through stakeholder engagement | chain delays and disruptions. These | | Weremain focused on safety across our | underpinned by astrategic rationale. | challenges dampened what were positive | | enterprise and we are targeting our most | | contributions from the 2020 acquisitions | The long-term outlook for the Group challenging sites through a comprehensive and strong execution across key franchises, andthe defence industry means we need improvement plan including campaigns such as the electronic warfare and toanticipate change and ensure that we across employee groups, implementing precision-guided munition programmes. can continue to improve upon what we virtual reality safety training, and Our civil market operations continue to dotoday, and into the future. We are introducing new and improved systems beimpacted by the COVID-19 pandemic, committed to building a sustainable future toreduce risk related to safety, health though there are some signs of demand by having a clear sustainability agenda andenvironmental impacts. recovery inthe commercial Controls & focused on valuing and developing our Avionics Solutions and Power & Propulsion The importance of our employees’ people, making a positive social and Solutions businesses where we have wellbeing has been enhanced during economic contribution to our communities, leadingpositions. thepandemic as we have balanced developing innovative technology and workand personal commitments. Our collaborating with our supply chains and In Platforms & Services (US), combat vehicle wellbeing programmes support employees reducing the environmental impacts of deliveries continued, with the investment in in managing their work and personal ouroperations and products. new production capabilities and processes responsibilities. We continue to promote enabling the business to consistently We will continue to review ways to mental health awareness programmes deliverat increased volumes over multiple integratesustainability practices holistically across the business and have worked hard programmes. Compared to last year, vehicle into our business, driven through, and this year to increase our communications delivery volumes increased by more than aligned with, our strategic objectives as and engagement along with introducing 60%. US Ship Repair made goodprogress welook to develop sustainable solutions to training for employees. resolving several challenged ship meet ever-evolving customer requirements. modernisation programmes and recovering The progress we are making on our from COVID-19 and other operational sustainability agenda has been reflected impacts. Work remains to bedone to return with an improvement in our CDP score, to pre-pandemic levels ofperformance. andwe have maintained our AA leader class rating with MSCI. ## 2021 has been about evolving, ## accelerating and integrating ## our sustainability agenda. BAE Systems plc Annual Report 2021 11 Strategic report ## Chief Executive’s review continued We completed two new acquisitions in 2021, both in the UK, firstly a small technology bolt-on which enhances our data and digital capabilities, and secondly In-Space Missions, a company that designs, builds and operates satellites and satellite systems, enabling usto combine BAE Systems’ experience inhighly secure satellite communications with In-Space Missions’ full lifecycle satellite capability. We also announced we had entered into a definitive agreement to acquire Bohemia Interactive Simulations, a leading developer of advanced military simulation and training software, headquartered in the US. ### Advancing and further ### leveragingour technology Investment in advanced technology and innovation is a benefit which spans the breadth of the business, supporting operational performance, competitiveness, our sustainability objectives and growth aspirations. The threat environment consists Charles Woodburn hosting a visit for our non-executive directors not just of the physical risks but also those totheFactory of the Future, Warton. in the grey zone which need to be addressed. It is critical to our customers to have a fully integrated combination of capabilities to negate these threats. Against this backdrop ### The Air sector grew and maintained good Driving competitiveness we are increasing our self-funded research operational performance. Production and development investments and ### andefficiency movedto full rate levels on F-35 rear positioning the Group towards future On competitiveness, we have a number fuselage assemblies, Typhoon production growth areas aligned to our customer ofprogrammes to achieve efficiency and and support revenues increased as we priorities, by identifying collaboration simplification across the Group building delivered on our build programmes, and opportunities and investing in our leading onthe lessons learned in the last year on wecontinued to provide Typhoon operators capabilities and technologies across working practices and cost savings. We are with ongoing support and training services electronic warfare, combat aircraft, precision also bringing data analytics to bear across to deliver availability, maintenance and weaponry, cyber and the underwater the Group to benchmark and improve upgrade enhancements. The Tempest battlespace. From these established efficiency, as well as investment in new technology maturation programme is positions we are developing, linking and technologies and production techniques progressing well and we secured the first transitioning solutions into priority areas tomaintain our drive to continuously contract for the Future Combat Air System such as multi-domain networks, data improve operational performance and Concept & Assessment Phase. analysis, autonomy, space and sustainability- valuefor our customers. driven technology developments. While our In Maritime, we sustained the performance Areas highlighted to date include the R&D investments are important, we sustain improvements seen last year. Manufacturing streamlining of processes, general and our leading positions through collaboration levels increased on Type 26 with the first administration cost savings, office footprint with our customers, educational institutions three ships now in production and we requirements, flexible working practices and and in partnership with defence laboratories launched the fifth Astute Class submarine. how we can be more agile and adaptable to and research institutions such as the Defence Construction of the first two Dreadnought deliver our commitments in different ways. Science and Technology Laboratory, DARPA, submarines is progressing and in the the Air Force Research Laboratory and Maritime Services business we successfully ### Portfolio theOffice of Naval Research. Additionally supported the first major UK Carrier Strike We continue to evaluate and increase weaccelerate the pace and reach of our Group deployment. valuecreation from our portfolio through innovation by collaborating across our Cyber and Intelligence delivered an acquisitions and disposals as we align to global enterprise. increasein margin with Applied Intelligence ourcustomer needs and priorities in Reflecting the importance of technology delivering much-improved profitability, addressing the evolving threat environment. investment, in 2022 we launched the benefiting from heightened demand in The US acquisitions completed in 2020 BAESystems Digital Intelligence business theGovernment sector, together with the areperforming well and construction is which brings together many of our digital results of our restructuring. Intelligence & progressing on the new facility for the transformation, cyber security, complex Security delivered growth in sales and profit GPSbusiness to maintain delivery of data analysis and communication and as it performed on its long-term support market-leading technologies. In respect of information systems capabilities from across contracts, some of which are on the most disposals, we sold the Filton and Broughton the Group. We have exceptional talent and sensitive and critical US national security sites generating a good cash result, the world-leading innovation in these areas programmes. The business maintained BAESystems Rokar International business, andthe new business will allow greater itsbid pipeline to deliver a strong, stable and our stake in Advanced Electronics collaboration across the Group, and in backlog position at year end. Company, one of ourSaudi Arabian timebring a greater range of capabilities portfolio companies. toour customers. 12 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### Demand outlook Asthe largest defence provider in the Post-employment benefits schemes UKand Australia and a top ten prime We have a large order backlog and The Group’s share of the pre-tax accounting contractor to the USDepartment of Defense exceptional programme positions, providing net post-employment benefits deficit we are well positioned to support our visibility of growth which was further improved to a year-end position of £2.1bn government customers in these nations as supported by order flow in 2021 that from £4.5bn, as discount rates increased discussions progress. This is a clear example exceeded targets. andasset performance was strong. of how nations are looking to coordinate | Our defence and security capabilities remain | capabilities in multi-domain operations | Under the funding deficit recovery plan | | --- | --- | --- | | highly relevant in an uncertain global | toaddress the threat environment. | agreed in February 2020 all scheduled | | environment with complex threats, the | | lumpsum Company contributions were | In Europe, a number of nations including requirement in many cases to recapitalise made in 2020. Germany and France continue to increase orupgrade ageing equipment, and with ### their defence budgets to address the threat Executive Committee changes theadditional need for governments to environment and in order to meet their NATO drive a domestic economic prosperity At the end of 2021 Cliff Robson was commitments. We remain well placed through agenda in a post-pandemic world. This appointed as Group Managing Director our positions on the Eurofighter Typhoon, backdrop has resulted in good prospects ofthe Airsector, replacing Chris our shareholding in MBDA and our inexisting and new international markets Boardmanwhoretired. BAESystems Hägglunds land business based for our products and services in air, in Sweden, and we are pursuing a number Following the formation of the Group’s maritime, land, space and cyber security. of significant opportunities in the region. newDigital Intelligence business with effect The US continues to represent the world’s from 2022, the following changes were In the Middle East, our long-standing largest defence budget and accounts for made to the Executive Committee. David relationships at government and company around 46% of our revenues. Armstrong was appointed Group Managing levels, continued regional instability and Director, Digital Intelligence. Karin Hoeing Through a range of innovative technologies thenature of our long-term contracts, mean was appointed Group ESG, Culture & and proven capabilities, our USbusiness we expect defence and security to remain Business Transformation Director, and continues to sustain its robust backlog apriority. The renewal of certain existing wassucceeded as Group Human Resources anddiverse portfolio of long-term defence long-term support contracts is tracking Director by Tania Gandamihardja. Gabby programmes for the US Armed Forces and inline with expectations and we continue Costigan was appointed Group Managing international allies. The business portfolio toprogress a number of opportunities with Director, Business Development. She was remains closely aligned with enduring existing customers. succeeded as Chief Executive, BAESystems customer priorities and key focus areas The civil aerospace market accounts for Australia by Ben Hudson. In turn, Julian outlined in the US National Defense around 3% of Group sales. COVID-19 Cracknell was appointed Chief Technology Strategy, to modernise and maintain military hassignificantly impacted this market, & Information Officer. Simon Barnes, readiness, which we expect to continue andarecovery to 2019 levels is likely to Managing Director, BAE Systems Saudi with the upcoming 2022 National Defense beanumber of years away. We are seeing Arabia, also joined the Executive Committee. Strategy. The business has been operating some signs of recovery and this remains an ### under extended Continuing Resolutions in Summary important franchise for us in which we have fiscal year 2022. While the Congressional leading capabilities in flight and engine The fundamentals of our business remain budget and appropriations impasse is not controls across new, developing and more strong, and the strategy of the Group is without risk, the threat environment remains mature programmes with capabilities unchanged. Our business benefits from a and is expected to result in continued transferable from defence air platforms. large order backlog, with established positions support for US defence spending in the on long-term programmes in the US, UK, coming years. ### Balance sheet and capital allocation Saudi Arabia and Australia. Relationships In the UK, the Defence Command Paper The Group recognises the importance to with, and support from, our customers renewed commitments to our major investors of a clear and consistent capital remain strong, with defence and security long-term programmes in complex warship, allocation policy. The Group’s balance sheet continuing to be a priority for governments submarine and combat aircraft design and is managed conservatively in line with its in our key markets, with continued demand build, allowing for long-term investment in policy to retain its investment grade credit for our capabilities. This backdrop, together these key sovereign capabilities, as well as rating and to ensure operating flexibility. with our focus on programme execution, strong support for cyber. The opportunity The Group expects to continue to meet positions us to grow our sales profitably pipeline is positive with domestic, export itspension obligations, invest in research andincrease cash conversion in the coming and collaboration opportunities identified. and technology and other organic years. We are evolving the business to We also have the capabilities to support investment opportunities, and plans to pay havean appropriate sustainability agenda ourUKcustomer with its space ambitions. dividends in line with its policy of long-term embedded at its core, with a constant focus sustainable cover of around two times on operational performance and value Our portfolio is well positioned to underlying earnings. creation. As demonstrated this year, higher benefitfrom increased defence spending cash generation gives us increased strategic inAsia-Pacific through our Australia Consistent with this approach, the Group flexibility focused on technology and aligned business, which is already set to grow initiated a share repurchase programme to our customers’ priorities, and enables us to significantly due to our contracted positions, ofup to £500m on 30 July which was deliver increased cash returns to shareholders. | and through export opportunities from | completed in February 2022. Investment in | | --- | --- | | ourUK,US and Australian business to | value-enhancing acquisitions will continue | | theregion. The AUKUS announcement in | to be considered where market conditions | | September 2021 is strategically significant. | are right, where they deliver on the Group’s | strategy and where they offer greater ### long-term value than repurchasing the Charles Woodburn Group’s own shares. ### Chief Executive BAE Systems plc Annual Report 2021 13 Strategic report ## Our strategic framework ## Our strategy is comprised of six key long-term areas of focus that will help ## ustoachieve our vision and mission. It is centred on maintaining and growing ## ourcore franchises and securing growth opportunities through advancing ## ourthree strategic priorities and demonstrating Company Behaviours. ## Our vision Our mission To be the premier international defence, To provide a vital advantage to help our aerospaceandsecurity company customersto protect what really matters ## Our strategy Progress during the year Outlook – Defence sales grew by 3% – Strong order backlog and long-term programme positions ### Sustain and ### 1 – 2021 orders ahead of expectation – Defence spending increasing in many of our major markets ### grow our defence – Number of major long-term programmes – Good opportunity pipeline in all our sectors ### business continuedto grow – Geopolitical and macro risks still remain – Increased self-funded R&D – Work continued on key controls and avionics – Our clean propulsion systems technology is well placed ### Continue to grow ### 2 development programmes including 777X asdemand for low and zero emission technology grows ### ourbusiness in – BAE Systems’ clean propulsion systems continued – Commercial aerospace recovery is expected in the ### adjacentmarkets to expand its product offerings and markets comingyears – Hydrogen Fuel cell partnerships and EVTOL – Cyber security and digital technology opportunities with investments announced alliedgovernments – Acquisition of In-SpaceMissions – Investment in space capabilities to drive revenue growth inthis domain – Qatar programme moving into aircraft delivery – Strong bid pipeline in Europe, Asia-Pacific and Middle East ### Develop and expand ### 3 andsupport supported by increasing defence budgets in many key markets ### our international – A number of significant export awards for MBDA – Opportunities to develop in new markets driven by threat ### business environment and ability to export from UK, US, Australia – CV90 awards in several markets – Continued to widen reach and relationships andSweden intargeted markets especially in Asia-Pacific – MBDA remains well positioned across Air, Land and Sea – Progression of employee value proposition – Build stronger employee experience aligned to organisation ### Inspire and develop ### 4 todriverecruitment marketing strategy culture and sustainability ambitions ### adiverse workforce | | – Recruited a record 1,373 apprentices and | – Progress gender diversity goals and develop stronger | | --- | --- | --- | | todrive success | graduatesin the UK | ethnicityambitions | | | – Established new gender diversity metrics, | – Evolve recruitment transformation programme to focus | | | embedded our ambitions into process, | oncritical skills of the future | | | practices,policies, systems and training | – Develop workplace climate to build stronger culture of | | | – Implemented talent management framework | agilityand inclusiveness, strengthening our commitment | | | across all levels and relaunched leadership | tomental health, safety and wellbeing | andlearning programmes online – Strong set of financial results delivering order – Strong order backlog and established positions on ### Enhance financial ### 5 intake, sales, EBIT, EPS and free cash flow growth long-termprogrammes provide a strong platform to ### performance and deliver – Dividend increased for 17th year in a row delivermid-term growth ### sustainable growth in – Focus on improving cash conversion and margin expansion – £500m share buyback announced in July 2021 ### shareholder value andcompleted in February 2022 – Delivery on rolling three-year cash targets enables strategicflexibility to deliver a broad and balanced capital allocation policy and enhanced shareholder returns – UN Race to Zero and 2030 net zero ambitions – Develop 2030 net zero roadmap and mature TCFD disclosures ### Advance and integrate ### 6 – Record UK apprentice hiring programme and – Progress ESG agenda and increase our visibility and impact ### our sustainability continued investment in STEM and early careers – Use external benchmarks to set targets and metrics and ### agenda – SASB submission and the introduction of driveimprovements and ambitions disclosures in line with TCFD recommendations – Engage employees and key stakeholders to set ESG priorities – Ongoing focus on safety and wellbeing and and drive integratedapproach accredited as real living wage UK employer 14 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ## Through successful execution of this strategy we target the ## delivery of a high-performing, well-run sustainable business ## which will generate long-term shareholder value. ## Our strategic priorities ### Our three strategic priorities, which are embedded throughout ### theGroup, provide the link between our longer-term strategy and ### near-term business objectives for all our employees. ### Continuously improve Advance and ### Drive operational ### competitiveness further leverage ### excellence ### and efficiency our technology | Successes in 2021 | Successes in 2021 | Successes in 2021 | | --- | --- | --- | | – Continued effective response to | – Focused on supply chain resilience in response | – £250m initial order for next phase of | | situationsarising from the pandemic | to pandemic-driven challenges ensuring critical | Tempest Future Combat Air System | | andsupply chain disruptions | programmes remained on track | – In-Space Missions UK acquisition | | – Astute Boat 5, Anson launched | – Continued to drive value from our external | – DARPA contract for revolutionary Active | | – F-35 aft fuselage production ramped | spend and worked to further relationships | Flow Control flight demonstrator vehicle | | tofullratequantities | withour strategic suppliers | | – Successful demonstration of autonomous – US Combat Vehicle production ramp – Savings and efficiencies achieved in armoured vehicle for Australian Army continuedCOVID-19 conditions to help – Carrier Strike Group successfully supported – Our autonomous system used in successful maintain productivity onfirst operational deployments test flights of Boeing’s Loyal Wingman for – Data analytics and benchmarking implemented the Royal Australian Air Force – Increased profits year-on-year in all to drive cost saving programmes USsectors,Maritime, Applied Intelligence – University of Nottingham became our andataGrouplevel sixthUK strategic academic partner Our priorities for 2022 – Acceleration of sustainability agenda – Increased collaboration across the Group and Our priorities for 2022 with industry partners to mitigate inflationary Our priorities for 2022 – Grow our presence in space, especially and supply chain challenges | – Type 26/Hunter Class programme | | LowEarth Orbit satellite market and use | | --- | --- | --- | | | – Continue to drive supply chain savings and | ofspace to integrate military domains | | – Initial deliveries of Typhoon for Qatar | ‘Partner to Win’ programme | | withsecure communication technology – Continued multi-programme delivery – Continued focus on identifying and securing talent – Develop our digital offer, including analysing onUSCombat Vehicles and critical skills to fulfil future requirements large data sets to aid decision making on – Increased profitability in Platforms – Continue to drive best value from external the battlefield &Services(US) spend and manage payment performance – Further develop products for All Domain | – Further leverage strategic | tooptimise cash management | Operations, including networking, | | --- | --- | --- | | workforce planning | – Automate and digitise core supply chain processes | battlefield situational awareness and | | – Deliver against our ESG commitments | to maximise productivity and efficiency | resilient communications | | – Supplier quality and delivery | – Aggregate our supply chain risk and illuminate | – Continue electrification of platforms on | | – Improve competitiveness | lower levels of our supply chain to manage risk | land, sea and air, both for military and | | | and support programme delivery | commercial customers | | | – Continued focus on efficient business and cost | – Develop sustainable solutions for our | | | structures with lessons learned through COVID-19 | customers and across our own operations, | | | – Investment in new technology and production | supporting our net zero targets | techniques to drive efficiency ## Our values Trusted Innovative Bold BAE Systems plc Annual Report 2021 15 Strategic report ## Our business model ## We serve, supply and protect those who serve and protect us, in a corporate ## culture that is performance driven and values led. Through careful long- ## term sustainable management and governance of our business we will ## continue to create value for our stakeholders. ### Identifying customer needs – We have established positions on long-term programmes – Strong and collaborative relationships with ourcustomers – Our position as a trusted supplier allows us toidentify emerging trends and opportunities forgrowth ### Services, sustainment and upgrade Research and development – Provide competitive services that add value – Technology and innovation underpin our strategy forourcustomers and the development of products and services – Technical expertise acquired through product – We partner with academic and industrial design anddevelopment leaders todevelop new technologies that support our future product strategies – Flexibility and responsiveness to maximise availability ofourcustomers’ products – Clear focus for our research and development spend and that of our customers aligned to future product and services strategies ### Advanced manufacturing, Bidding and contracting ### commissioning and integration – Focus on value for our customers while effectivelymanaging risk – Investment in advanced manufacturing techniquesand facilities – Record of delivery on complex projects – Focus on operational excellence with safety – Partnerships with a network of suppliers asapriority supporting economic prosperity and development – Management of complex projects and collaboration across global supply chains ### Designing and developing – Engineering expertise in developing cutting-edge products and services – Product safety embedded in our designs to maximise safety in the manufacture and use ofour products – Products are designed and developed in awaythat provides for future flexibility with the ability to upgrade in an agile manner 16 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ## Our business model is underpinned by: Generating sustainable value ### Customers Our largest customers are governments, but we alsosell to large prime contractors and commercial businesses. We never lose sight of who are the users of our products and services and the critical work ### Our values Our people they do to keep us safe. We take on and solve some of their most complex and challenging engineering Our values of Trusted, Innovative Our culture values diversity and and technology projects to give them a competitive and Bold and our Company rewards integrity and merit so Behaviours ensure our focus is on that everyone can fulfil their edge and help them to protect what matters most. how we create value rather than potential. We are committed to simply how much money we nurturing talent and developing make. Our people are empowered highly skilled people. We are to make the right decisions and training the next generation of ### know where to go to seek help. engineers and business leaders to Employment be able to drive innovation and Page 14 High-value jobs are supported in our business and solve complex challenges. Our strategic framework inour supply chains. We support jobs through direct Page 50 employment, through the indirect impact of the Social employees employed as a result of our supply chain spending and through those jobs supported by the consumer spending of our employees and of those in our supply chain. ### Our technology Our partners and ### We focus on technology keyrelationships Supporting our communities innovation and engineering We recognise the important Wecontribute to the economic prosperity of the excellence, prioritising and contribution provided by our placeswhere our people live and work through high investing in next-generation suppliers and partners and we value jobs and caring for and supporting our local research and development maintain close relationships with communities. Supporting causes that have meaning programmes to deliver them which help us to create competitive solutions to to our business and thecommunities in which we best-in-class, cost-effective meetourcustomers’ needs operate isvitally importantto us and our employees. products and services. nowand in the future. Page 67 Page 34 Responsible supply chain Our investment in technology ### Climate change We acknowledge the significant and lasting impactsof climate change. Our goal is to develop and implement a long-term strategy that reduces the impact of our activities, supply chain and products on the climate by using our world-class ### Responsible sourcing Our governance engineering capabilities and cutting-edge ### and impact framework technologies. We will also progress our ambition We take pride in managing our We are accountable for all that ofnet zero greenhouse gas emissions. operations responsibly. We use we do – our robust governance our expertise to reduce the framework sets out how we do environmental impacts we have business. Together with our Code around the globe and to develop of Conduct, which requires our products and services for our employees to conduct business ### customers which reduce their inan ethical way, it enables us Returns for shareholders impacts on the environment. toearn and maintain the trust Through the careful long-term sustainable Ourgoal is to develop and ofour stakeholders. management and governance of our business implement a strategy to meet weare well placedto continue to generate ournet zero targets. Page 118 Governance framework goodreturns forourshareholders. Page 38 Climate change and the environment BAE Systems plc Annual Report 2021 17 Strategic report ## Our stakeholders ## Understanding and aiming to exceed the expectations of our ## stakeholders is critical to the long-term sustainability of our ## business and the vital role we play in helping our customers ## toprotect people, information and nations. ## Our Our ## people shareholders ## Our customers Our ## and end-users communities ## BAE Systems ## Our ## Regulators ## suppliers ## Our Our pension ## partners scheme members Stakeholders Description Areas of interest Why we engage How we engaged in 2021 Employees of – Safety and wellbeing The skills, capabilities and We used a range of channels to engage ### Our BAESystems – Ensuring our people commitment ofour people withemployees across the Group, including ### people arecritical to ensuring the in-person and virtual meetings, briefings, canfulfil their potential atwork long-term sustainability of conferences, toolbox talks, stand-downs and ourbusiness and delivering listening forums at all levels. Leaders provided – Recruitment theinnovation needed to regular updates through videos and podcasts. – Training and development solveour customers’ We also used digital channels including our – Reward and recognition complexchallenges. Employee App, intranet, email and TV systems. – Diversity and inclusion Effective engagement Employees were encouraged to share feedback – How we work together enablesour employees and get involved in Company activities. We ran – Environmental and tocontribute to improving surveys to measure employee sentiment in socialconsiderations business performance theyear. andhelps us tocreate Engagement has continued with trades unions anenvironment in which in Australia and the UK and labour unions in Page 51 everyoneis valued and the US. More information canfulfil theirpotential. Large governments – Value for money Understanding our customers’ Despite international travel restrictions and ### Our and their procurement – Quality of products needsand challenges is thecancellation of some events, we were able ### customers bodies, large prime centraltoourstrategy and to meet customers at a number of exhibitions. andservices contractors howand whereweinvest in At these events, we ensured virtual and hybrid ### andend- – Risk management andcommercial technologies andinfrastructure. channels were in place to engage with businesses – Timely delivery customers not able to attend. We used the ### users Our end-users protect people, – Safety and wellbeing Carrier Strike Group deployment to meet The peoplewho information and nations. – Environmental and customers on board Royal Navy vessels as useourproducts socialconsiderations partof dedicated International Industry Days. andservices, often We continued to hold regular face-to-face members of the – Reliability of our teams meetings, virtual sessions and programme armed forces and torectify issues quickly reviews where possible. security services We worked closely with end-users at customer Page 65 facilities, bases and sites, always ensuring we More information complied with local restrictions. 18 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance Stakeholders Description Areas of interest Why we engage How we engaged in 2021 The companies we – Labour and skills Our suppliers and an effective, We worked hard to engage directly with ### Our work with to deliver requirements efficientand sustainable supply oursuppliers early and maintained close ### suppliers products and services chain are essential to enable relationships to ensure continuity of supply – Cost of materials to our customers andoperations usto deliver forour customers and to proactively manage risks arising from and end-users. supply chain disruptions as a result of global – Terms of trade events. This enabled us to support our – Timely payment suppliers through this challenging time, for – Sustainable sourcing example by providing extended demand visibility, ensuring timely payment and where | Page 67 | | | | appropriate having a flexible approach to | | --- | --- | --- | --- | --- | | More information | | | | terms of trade. | | | Other industry | – Product and service | We benefit from partnering | We engaged with our partners at physical | ### Our companies development withother organisations to andvirtual events, including organising ### partners oracademic leverage expertise or ourown virtual conference to present – R&D investment institutions who technology so that we can PhDresearch we have co-sponsored with wework with offerthe best possible products UKResearch and Innovation. We maintained and services toour customers. regular dialogue with industry partners around specific customer challenges that require a | Page 53 | | | | multi-partner approach, such as sustainability | | --- | --- | --- | --- | --- | | More information | | | | and multi-domain integration. | | | Investors who provide | – Profitability, growth | To ensure the owners of our | A full investor programme was possible | ### Our capital tothebusiness potential and cash shares and potential investors butgiven pandemic related restrictions ### shareholders generation inthe Company have a full engagement was largely virtual. This took – Capital allocation; returns understanding of our business theform of management and Investor viadividend and buyback including the strategy, growth Relations meetings and an increased number potential and risks in the of conferences and bank-led Q&A sessions. – Operational performance business as well as the overall – Quality of management We conducted a live broadcast from the performance of the business. DSEItrade show and held two capital markets – ESGconsiderations | Page 24 | | | | events, one focused on technology and our | | --- | --- | --- | --- | --- | | More information | | – Share price performance | | USoperations, the other on ESG. | | | The people | – The value we bring to | To ensure we maintain the | Our volunteering and fundraising programme | ### Our wholivewhere thecommunities in which trustofthe communities focused on virtual and online initiatives where ### communities wework and weoperate wherewe work. To understand possible. Employees volunteered their time charitable – Employment and respondto any issues and expertise through virtual mentoring and organisations important toour communities. coaching, and we used online fundraising – Local community factors wesupport tools to encourage employees to participate including environmental To provide employment invirtual activities whilst still being able to andsocial considerations opportunities and contribute fundraise away from site. tothe economic prosperity | Page 58 | | | oftheplaces where our people | | | --- | --- | --- | --- | --- | | More information | | | live and work. | | | | Bodies that supervise | – Industry or business | In order to have a constructive | We liaised openly and constructively with | ### Regulators industry or business policiesand regulations dialogue with those who various regulators, including conducting activities impact the regulations which ongoing discussions with UK and US can influence our business. regulators in support of efforts to reduce regulatory burdens, improve bilateral defence | Page 64 | | | | trade cooperation and support Company | | --- | --- | --- | --- | --- | | More information | | | | licensing strategy. | | | Members and | – Company performance | To make sure current and | We enhanced our UK pensions website | ### Our trustees of our – Member benefits former employees in our formembers, ensuring they have access ### pension pension schemes pension schemes are informed tokeyscheme documents and a range of – Pension fund about how we continue to pension guides on key topics. All members ### scheme investmentstrategy meet our commitments to received a newsletter to keep them updated – Deficit recovery them and ensure they have and engaged in their pension planning; for ### members access to all the information members of our Defined Benefit pension they need to manage their schemes, this included an annual report pension arrangement. onthe financial health of their scheme. Wecontinued to work with our Consultative Page 24 Committees, to ensure ongoing dialogue More information between the Company, Trustee and members. We also engage with other organisations who have a focus on business or defence and security issues to understand factors that can impact our business and how we operate. BAE Systems plc Annual Report 2021 19 Strategic report ## Our investment proposition ### BAE Systems plc is one of the world’s largest aerospace ## At BAE Systems and defence companies, employing a highly-skilled ### global workforce of approximately 90,000 people ## weserve, supply and located in over 40 countries. The geographic diversity ### of our business is a major strength and differentiator ## protect those who among our peers in the defence sector. We are the ### largest defence contractor in both the UK and ## serve and protect us. Australia, and a top ten defence prime contractor in ### the US. Our business spans all domains of the global ### security market, from Air and Space, to Land, Sea, ### Subsurface and Cyber domains. ## Our investment proposition ## is driven by our consistent strategy and strategic priorities of… ### Continuously improve Advance and ### Drive operational ### competitiveness further leverage ### excellence ### and efficiency our technology ## The strategic actions, an accelerated and Shareholder returns ## increasingly embedded ESG agenda 2021 25.1p ## andculture of the business are focused on ## 18 years 2020 1 23.7p ## long-term sustainable management and ## 2019 1 ofdividend 23.2p ## governance of our business and creating | | 2018 | 22.2p | | | --- | --- | --- | --- | | anddelivering value for our stakeholders. | | | increases | | | 2017 | 21.8p | | ## We are well positioned to successfully build ## onour track record of… 1. 2020 does not include the interim dividend paid of 13.8p per share paidin September in respect of 2019 performance. This amount is reflected in the 2019 dividend history. | Clear, consistent and careful capital allocation | | | ESG agenda | | | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | | Well-positioned | | Sustainability | | Long-term | | | | 1 | | | portfolio | | programme visibility | | | | Pension – UK lump sum deficit funding completed | | | | | agenda | | | Investment in business – included in earnings and cash outlook Environment Governance Social Goal to reduce environmental Governance and Our people and values Free cash flow impact ofour activities businessconduct –developing talent Committed to TCFD Responsible supply chai n Positive social and recommendations economicimpacts Target net zero greenhouse Technology investment gas emissions across our Safety and wellbeing operations by 2030 Dividend M&A Buyback Human rights Maintain investment-grade credit rating Further embedding sustainability into business Benefit to and balance sheet flexibility throughstrategic objectives all stakeholders 1. Per current funding plan. Next triennial review will be in 2022. Accelerating our ambitions 20 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ## Our outlook and investment proposition is supported by our five key competitive advantages Multi-year programmes – visibility on value generators Differentiated technology ### 1 4 – £44bn order backlog – we expect good order intake in 2022, – We have differentiated technology incumbent positions further underpinning positive outlook. andarefostering a high-performance, innovative culture. – Incumbent positions on key long-term programmes in all sectors. – More than 2,500 inventions protected by patents or patentapplications. – Backlog in many cases is a subset of the expected through-life – We are positioning for future growth aligned to customer priorities programme values for the following programmes: as threats in the grey zone mean defence needs to adapt. – F-35; – R&D is increasing as we look to build on existing world-leading – Dreadnought submarines; technologies and generate new differentiating capabilities. – Type 26 and Hunter Class frigates; – Typhoon support; R&D investment increasing – Saudi Arabia support; – US combat vehicle production; and Sensors Multi- Advanced Sustainable Electronic Autonomy Cyber and domain electronics technology warfare – Electronic warfare technology. processing – Provides visibility on value generators for years to come. – We are accelerating the pace of innovation through – All sectors positioned to grow from backlog and known collaborationand partnerships with leading defence programmes with a good opportunity pipeline. laboratoriesand educational institutions. – Projections are based on internal management estimates and reflect management’s current assumptions, including assumed receipt of future orders. | | World-class defence capabilities | | | Value creating operating model | | | | --- | --- | --- | --- | --- | --- | --- | | 2 | | | 5 | | | | | | Electronic Warfare | Combat Air | | | Efficient | | | | A leader in full-spectrum electronic | Consortium positions on F-35 and | | Balanced mix | R&D model | CAPEX – self and | Advance warfare technology and solutions – Typhoon – Leading availability model ofproduction, – customer, self customer funded payments customers increasing focus and for combat aircraft support – Leading aftermarket and collaboration – franchise specific growthexpectation. development of next-generation funded combat air systems and technologies. | Combat Vehicles | Undersea Warfare | | --- | --- | | Build 4 of 5 vehicles in US Heavy | Design, build, combat management | | BrigadeCombat Team; CV90/BvS10 | systems, weapons and autonomous | Strong operating model – negative working capital manufactured in Sweden. systems capabilities. Cyber Combat Ships Trusted partner for allied nations. Design, build, support and integrate complex combat ships. Multi-Domain Capabilities Well positioned to offer differentiated solutions in autonomous, networking anddata exploitation – augments and differentiates our platform businesses. ## In summary, these Diverse geographic footprint – deep customer relationships ### 3 – Largest defence contractor in UK, Australia and top ten prime ## competitiveadvantages contractor in the US. 1 ## Sales by destination andpushing our strategic A US 43% ## B UK 20% actions deliver acompelling C Saudi Arabia 12% ## C investment proposition D Australia 4% E Other international markets 21% ## forourshareholders. ## What we look to achieve in the coming years… – Strong consistent programme performance – Top line growth – Technology investment ### – Margin expansion Attractive – Efficiency and simplification in working ### – Strong cash conversion shareholder – Portfolio shaping for value creation – Focused capital allocation ### returns – Secure further opportunities and widen market base – Higher ROCE – Accelerate our sustainability agenda E A D BAE Systems plc Annual Report 2021 21 B Strategic report ## The work of the Board ## The directors of BAE Systems – and those of all UK companies – must act in accordance with ## asetof general duties. These include a duty under Section 172 of the Companies Act to promote ## the success of the Company, and in doing so the directors must have regard (amongst other ## things) to certain stakeholders and other factors. In this statement, on pages 22 to 25, we ## highlight some of the keydecisions and discussions undertaken by the Board in 2021. ### Companies Act 2006, Section 172 ( 1 ) “A director of a company must act in the way, he considers, in good faith, would be most likely to promote the success of the company forthe benefit of its members as a whole, and in doing so have regard (amongst other matters) to the following factors: (a) the likely consequences of any decision in the long term; (b) the interests of the company’s employees; (c) the need to foster the company’s business relationships with suppliers, customers and others; (d) the impact of the company’s operations on the community and the environment; (e) the desirability of the company maintaining a reputation forhigh standards of business conduct; and (f) the need to act fairly as between members of the company.” ### Overview of the year Looking beyond the pandemic, it also had ### Stakeholder engagement initial discussions on future ways of working After the unusual demands of the COVID-19 The Company engages with a variety of and considered potential structural changes pandemic in 2020, lastyear saw the Board stakeholders on a regular basis. Feedback to the workplace. The personal tone and engaged in a more normal pattern of is received at a number of different levels increased levels of communication fostered activity – all ultimately aimed at promoting and helps inform numerous decisions at the peak of the pandemic were madeon a delegated basis acrossthe the long-term success of the Company. The maintained, and the Board was pleased to Company – but within the highly developed easing of COVID-19 restrictions as the year see the positive feedback from employees governance structure approved and progressed allowed the directors to meet withregard to the authenticity and more overseen by the Board. Stakeholder collectively in person and also for a number conversational style ofcommunications. feedback is also received by the directors, of non-executive Board members to join either directly, via executive management senior executives onvisits to our sites, to Our Company purpose is the starting point or through formal reporting processes. engage directly with employees. Led by for our strategy. Attheheart of that is a Further information on stakeholders and theChief Executive and the President & recognition of the fundamental importance how we engage can befound in the Chief Executive Officer of our US business, of defence and security to society, and our following sections of this Annual Report: high-level customer engagement and core purpose of serving, supplying and meetings with business partners and major protecting those who serve and protect us. Page 18 Our stakeholders suppliers was also maintained, providing The Board has discussed the Company’s essential feedback on performance and purpose at length and has identified the Page 51 People other matters – details of which were need to engage more widely with all relayed to the Board. stakeholders to communicate the vital role Page 58 Supporting our communities played by companies such as BAE Systems. The Board was alert to the ongoing impact Only the defence industry can bring Page 134 of the pandemic, particularly with regard to Environmental, Social and Governance together the technology, know-how how our employees were affected. Regular Committee report andresources needed to provide our updates were received on this matter, which government customers with themeans to included the work that was being fulfil their primary responsibility – ultimately, undertaken across the Company to promote to provide security and safety for their awareness of mental health issues. The country and citizens. Board welcomed the increased levels of communication and the steps taken to support employees during the pandemic. The Board received feedback directfrom employees, with the opinion survey conducted across theUK and Rest of World businesses specifically asking about mental wellbeing and how the Company had supported them during the pandemic – the questions referring directly to these matters received favourable response rates of 70% and 79% respectively. 22 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ## Key matters considered and decisions made in 2021 ### Company culture and In its review of culture, the Board endorsed Strategic development the Behavioural Framework that is central ### employeeengagement andinvestingfor the future tothe work being undertaken by the During the year the Board considered the In his opening remarks to the Board at ChiefExecutive to accelerate performance, Company’s culture, and the results of recent thestart of its annual Strategy Review in it being based on the following behaviours: employee engagement surveys were used November last year, the Chairman reminded inspiration; courage; integrity; people to help inform the Board’s deliberations. directors of the long-term nature of the development; collaboration; adaptability; business. He highlighted the importance Members of the workforce in the UK, creativity; and strategic vision. It also ofmaking sound strategic decisions and Australia and the Kingdom of Saudi Arabia welcomed the tone set by senior leaders judgements that would be the foundation undertook a comprehensive employee incontinuing to advance an inclusive of the business in future decades. For engagement survey. Additionally, a random workplace and one where employees example, the current Typhoon programme sample of 20% of the workforce of the feeltheir differences are valued. is based on customer and Company USbusiness undertook a pulse survey that On the basis of the work undertaken by decisions made in the early 1980s and reviewed employee perceptions. For our theBoard in considering feedback from weare likely to benefit from those decisions non-US businesses (comprising 43,000 employees and in reviewing the Company’s for another two decades. employees), the survey was similar to one culture, it agreed the following objectives: undertaken in 2018, which was used as a Digital technology is having a major impact – drive greater focus on engagement with baseline to compare and identify changes. on the nature of the defence and security the manual workforce and on millennial The three principal objectives of the survey challenges faced by our government career development; | were: to assess employee engagement; to | | customers. Against that background, the | | --- | --- | --- | | understand progress in achieving alignment | – undertake further work on refining | Board spent time in 2021 looking at the | | with certain behaviours adopted and | ourbehaviours to reflect the feedback | future of defence, drawing on engagement | | promoted by the Company; and, to hear | and recent learning; | with customers and developing the strategic | | about employee experiences during the | – build on our engagement with | understanding and outlook against which | | COVID-19 pandemic. | employeesand the positive sentiments | we can make decisions today, to promote | | | evident regarding Company purpose; | the success of the Company in the decades | In reviewing the results from the UK, to come. The Board continues to exercise Australia and the Kingdom of Saudi Arabia, – ensure that we drive forward on the oversight over the development and the Board noted that there had been an workunderway looking at the Future performance of today’s business, while at increase in favourable scores across all ofWork; and the same time planning for the long term, questions, compared to the 2018 survey. – maintain focus on workforce health instrategically important areas such as The biggest increases related to questions andwellbeing. autonomous systems for multi-domain focused on Company behaviours, The Board will continue to monitor our operations, digital infrastructure for the speakingup, collaboration and embracing corporate culture and ensure it remains future battlefield and sustainable solutions new ways of working. The survey also aligned with our values and purpose. for defence and commercial customers. highlighted the need to continue our focuson how we engage with certain To help the Board develop a more detailed areasof theworkforce and on completing understanding of the technologies that will the work initiated on early careers determine the long-term performance of development. One of the highest scores the Company and in developing strategically received was in response to a question important capabilities, it created a new regarding how proud employees were to board committee last year, the Innovation work for ourCompany. This, and other and Technology Committee. This Committee questions designed to benchmark employee is chaired by Dr Ewan Kirk, who has a deep engagement, all showed increases in understanding of digital technology and thelevel of favourable responses. innovation. As part of this role (and always respecting national security requirements) he has been engaging with employees tohelp understand the technologies and capabilities we have at present and how wecan develop these to meet the long- term needs of our customers. This year, themembers of the Committee have a programme of meetings that will see it holding meetings at our sites and taking theopportunity to meet employees that areinnovating for the future. BAE Systems plc Annual Report 2021 23 Strategic report # The work of the Board continued ## AGM vote and succession planning As reported to shareholders last year, following an unsolicited offer made to the Chief Executive, Charles Woodburn, the Board agreed to take steps to secure his continued leadership of the Company. It did so having agreed the significant contribution that he had made since his appointment and the importance of his role in leading the Company at a critical time in its development. Based on feedback received from customers and other stakeholders, the directors believed that continuity in leadership was crucial to maintaining customer relationships and in sustaining the progress made in the execution of major defence programmes, which are vital to the long-term success of the Company. With the support of the Board, the Remuneration Committee agreed certain changes to the Chief Executive's salary and incentives and achieved the objective of securing his continued service. Those changes were an important part of the Directors' Remuneration Report as put to shareholders at the Company's AGM in 2021. The resolution was passed with over three-quarters of votes cast in favour and the directors were very appreciative of the support the resolution received. The Board acknowledges the importance of shareholder views and feedback. We continue to engage with investors to maintain open dialogue and to ensure we understand their views. We recognise that from time to time, the views and priorities of shareholders may differ and we have to consider how best to balance these views when decision making. Prior to the meeting, largely facilitated by the Chairman, the Board engaged with shareholders accounting for nearly 70% of the Company's share capital. The depth of engagement was positively received as was the exceptional level of transparency in both the dialogue and also in the reporting provided by the directors in the 2020 Annual Report. This engagement provided the Board with a clear understanding of the ongoing support for the current senior executive team, but also feedback that the Board should ensure robust succession plans. Executive director succession planning, therefore, was a key focus for the Board in 2021. It completed an in-depth review of succession plans for all Executive Committee level roles including the Chief Executive. This included a rigorous analysis of key executives identified as possible 'ready now' successors for each of these roles. More details of the review have been provided in the Nominations Committee Report (see page 126). Similarly, non-executive succession remained an important topic for the Board as seasoned and valued members drew towards the end of their terms of office as independent directors, in accordance with the provisions of the UK Corporate Governance Code. ## Capital allocation – share buyback decision Having completed the Integrated Business Planning (IBP) process in November 2020, the Board recognised the long-term strength of the Company based on its programmes, technologies and customer relationships. The strong foundations of the business were evident in its performance, particularly with regard to cash. The long-term nature of many of the Company's key programmes and franchises provides a firm basis from which to forecast performance, and subject to risks and uncertainties, invest for the future. Against this background of improving performance and the outlook for the business, the Board undertook a review of capital allocation, and accelerated returns to shareholders. The starting point for the Board in these discussions was its funding obligations to Company pension schemes – the basis of an important stakeholder relationship with employees past and present. With regard to its principal funding obligations to the main UK scheme, it was recognised that the Company had agreed a funding plan in 2020 that reduced the level of deficit significantly through deficit contributions totalling £1.4bn. The Board also considered the long-term needs of the business and the investment required to help ensure it is well placed to continue to provide the capabilities required by our customers in the long term. Notably, during the previous year, the Board had agreed a £1.7bn investment in two new US businesses to help us access complementary technologies and accelerate profitable growth. In addition, the Company continues to benefit from considerable capital investment across all of its principal operations, much of which is funded by our customers as part of long-term commercial agreements and programmes. The Board has also agreed major capital expenditure investments to be funded by the Company, most notably in our US Electronic Systems business and the FCAS programme in the UK. Against a background of continued investment in the Company and meeting its wider stakeholder obligations, the Board considered a proposal to initiate a share buyback programme that would have the effect of enhancing returns to shareholders. In order to ensure the necessary operational flexibility in managing the Company's operations, the Board agreed the need to continue to manage the balance sheet conservatively and maintain its objective of paying dividends, in line with its policy of long-term sustainable cover of around two times underlying earnings. A share buyback programme of up to £500m was agreed in July, noting that the return from this would be in excess of the Company's weighted average cost of capital. It also agreed in principle with the trustees of the main UK pension scheme as to the deficit recovery implications of a buyback, pursuant to which it was subsequently agreed that additional deficit funding would be provided to the value of 10% of the value of the buyback programme. ## Climate change At the end of 2020, the Company set a target of achieving net zero greenhouse gas emissions across our operations by 2030. The directors previously reviewed the proposed strategy for achieving this and considered the infrastructure and activity required to achieve the goal. Further work was undertaken by the Board during 2021 to continue to develop directors' knowledge and understanding of the Company's climate transition strategy and the associated risks and opportunities. In particular, it looked at how customer requirements were likely to change, in order to address the climate policies being adopted by government customers. Consideration was also given to the possible impact that climate change will have on the Company's supply chain and the Company's ability to react and innovate in delivering a sustainable future that addresses the challenges posed by climate change. The Board has developed an initial understanding of the Company's climate transition priorities and risk profile, and this will continue to mature over time with the availability of more refined data. As part of its Strategy Review the Board was provided with feedback on the results of customer engagement and the need to adopt more environmentally friendly solutions to reduce greenhouse gas emissions. The Board also considered the initial results of the work undertaken to identify key technologies required to address our customers' sustainability requirements. These have focused on step-changes in fuel efficiency and options to use non-fossil fuels to power land and maritime platforms. Based on our power management expertise derived from our US-based digital aero-engine controls business, the Company has been at the 24 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### forefront in providing sustainable transit Supply chain and customers Community investment bussolutions for some time. As part of The Board was very aware of the supply In 2019 the Board sought shareholder the2021 Strategy Review, the Board agreed chain challenges that many companies approval to amend the Company’s Articles the importance of continuing to identify encountered during 2021, and received of Association, in order to facilitate a and invest in sustainable solutions for regular updates on the performance of programme that would unlock the value defence and commercial customers. oursuppliers. Also, the Group’s head represented by unclaimed assets on our ofprocurement briefed the Board on the share register. Having received that ### Ethical business conduct actions that were being taken to manage approval, the Board agreed to a programme The success of the Group is underpinned any potential issues. It was informed that whereby unclaimed share assets were sold byour ability to uphold high standards of aproactive approach was being taken and the proceeds used to fund good causes governance and ethical business conduct. | | tomanage supplier relationships with | benefiting the local communities in which | | --- | --- | --- | | The Board sets the ethical standards | theGroup working closely with suppliers | we operate (with a proportion of funds | | andvalues that guide all that we do as | toanticipate any issues and take action | retained to be used, should it be possible | | aCompany. It also regularly reviews the | where possible to ensure continuity of | tolocate the former owners of the assets | | activities that ensure we have a robust | supply. The value of long-term supplier | ata future date). Importantly, it was also | | andeffective ethics programme. At the | partnerships was clearly shown during | agreed that this would be in addition to our | | endof 2020 the directors approved a | 2021,with our long-term global supply | regular funding for community initiatives. | | refreshed Code of Conduct (the Code), | agreements – put in place prior to the | | During 2021 a total of £1.8m raised through afterit had been reviewed, updated pandemic – being of particular assistance the programme has been committed to andexternally benchmarked as part inmaintaining supply of certain critical sixcommunity projects, further details of ofatriennial review process. commodities. In the UK alone, the which can be found on pages 62 and 63. Groupsupports over 5,000 suppliers The Code is an important part of how Further commitments will be made to andwe are signatories to the UK weembed our ethical standards and community projects this year. government’s Prompt Payments Code, valuesinto the organisational culture ### through which we commit to assist those ESG engagement oftheCompany, which is facilitated by: suppliers by paying promptly within ESG matters were discussed on a regular – leadership and role modelling; theagreed payment terms. The Board basis by directors throughout 2021 – be – workforce communication isinformed of any significant issues thatthrough the Environmental, Social andengagement; concerning our commitments under andGovernance Committee or in the theCode. | – training and reinforcement; and | | Boarditself. Our core purpose connects | | --- | --- | --- | | – encouraging the right behaviours, | Throughout 2021 the Board was briefed | usto our stakeholders and during the | | andtheneed to speak up. | regularly on the status of our relationships | yearthe Board continued to engage | | | with key customers. The Chief Executive | incommunicating our ambitions for | During 2021, the Board reviewed ethical and the President & CEO of our US business ESGmatters. business conduct across the Company. maintained a similar level of close contact Itwas informed that the roll-out of the The directors have continued to stress with customers during 2021 as had been refreshed Code of Conduct was ongoing theimportance of maintaining our focus the case in 2020, despite the ongoing and supported by our annual all-employee onethical business conduct, the safety challenges of dealing with the pandemic. training programme based ondiscussions ofour workforce and promoting a diverse The decisions taken to support our within teams. The Board wasalso provided and inclusive workplace. It is also taking employees during these difficulties fed with details of the contacts made to the action to ensure that we play our part in through to our relationships with customers. Company’s Ethics Helpline, analysing tackling climate change, and engage more For example, in the UK and Saudi Arabia, at (onananonymised basis) the reports deeply in explaining the important societal the height of the pandemic, our employees made,including the nature of the role played by our industry in helping continued to support Typhoon aircraft mattersreported. government customers fulfil their defence availability in very difficult circumstances, and security obligations. | The Board spent time considering how we | and our Maritime Services business | | | --- | --- | --- | | maintain a robust, positive ethical culture | successfully supported the Royal Navy in its | In October last year, the Company held | | that continues to reflect the changing needs | first major Carrier Strike Group deployment. | anESG event and the directors engaged | | of society, and is responsive to changes in | In the US, the decisions taken in past years | with more than 130 investors and other | | the workplace – particularly one changed | to invest in new production capability and | stakeholders. The topics discussed at the | | bythe COVID-19 pandemic. The directors | processes were critical to our ability to | event centred largely on our environmental | | recognised our comprehensive approach | deliver an increased volume of combat | responsibilities and the robust governance | | tobusiness conduct matters, welcoming | vehicles to US military customers. | processes we apply to our products and | | theincreasing use of data to provide | | services – all ofwhich is in addition to the | This year, provided there is a continued greaterinsight into the workplace. They legal and regulatory controls applied by easing of pandemic restrictions, the Board alsoappreciated the focus on employee governments. The event was well received, will be looking to engage more directly with engagement and communication aimed and we have committed to holding further customers. atbolstering a corporate culture that aligns such events infuture, aimed at increasing with our values and behaviours. the level of transparency and accountability we provide to stakeholders. BAE Systems plc Annual Report 2021 25 Strategic report ## Our markets ## BAE Systems has leading positions in its principal markets – in the ## US, UK, the Kingdom of Saudi Arabia and Australia – as well as ## established positions in a number of other international markets. ## We are one of the world’s largest defence and security companies. ### Supporting our customers In addition, our diverse portfolio of Responding to changes in defence capabilities in the air, maritime, land ### Our strategy is focused on providing a and security requirements andcyber domains provides us with a vitaladvantage to our customers around Our business continues to respond to comprehensive offering for our customers the world. In particular, we have built geopolitical and technology trends that around the world, making us one of the strongpositions aligned with our core willinfluence and shape our customers’ broadest and most geographically diverse defence platforms to support our customers defence and security requirements now major defence companies. in our principal markets. These principal andin the future. Our excellence in complex markets – the US, UK, the Kingdom of Our market positions and discriminating engineering, developing cutting-edge Saudi Arabia and Australia – have been capabilities are aligned with enduring technology and seeking innovative solutions identified as having a significant and defence priorities, to include our enables us to respond to our customers’ sustained commitment to defence and customers’requirements to operate requirements for greater agility, global security. BAE Systems has established injointall-domain environments. reach, and advanced technology products strongand enduring relationships in these and services. ### Programme diversity and longevity markets and is recognised as playing a ### keyrole in the industrial capability of each The Group has a wide diversity of Growth aspirations of these countries. capabilities and geographical spread Budgetary growth and contract wins in a ofitsoperations meaning it is not overly number of our principal markets in recent ### Our unique position and capabilities | | relianton a few key programmes or | years has provided a growth platform for | | --- | --- | --- | | Our strong position in the US through | franchises. Additionally, these programmes | the Group in the coming years. Through | | theSpecial Security Agreement, together | and franchises ina number of cases are well | long-standing customer relationships and | | with our standing as the leading defence | positioned to extend beyond their funded | the development of new ones, combined | | contractor in the UK and Australia, provides | backlog formany years (see Our key | with the ability to leverage our range of | | us with unique capabilities that can be | programmes andfranchises on page 30). | capabilities around the Group, we continue | | leveraged across the Group to support | | to see further opportunities in a number | | ourcustomers. The AUKUS announcement | | ofinternational markets as these nations | | in September is a clear example of how | | increase defence spending in response | | nationsare looking to coordinate | | toamulti-faceted threat environment. | capabilities in multi-domain operations toaddress the threat environment. ### BAE Systems’ global defence market position Top ten global defence contractors’ revenue ($bn) | 1. Lockheed Martin | | | | | | | 63 | | --- | --- | --- | --- | --- | --- | --- | --- | | 2. Raytheon Technologies | | | | | | 42 | | | 3. Boeing | | | | | 32 | | | | 4. Northrop Grumman | | | | | 31 | | | | 5. General Dynamics | | | | 30 | | | | | 6. Aviation Industry Corporation of China | | | 25 | | | | | | 7. BAE Systems | | | 24 | | | | | | 8. China North Industries Group Corporation Limited | | 15 | | | | | | | 9. L3Harris Technologies | | 15 | | | | | | | 10. China State Shipbuilding Corporation Limited | 13 | | | | | | | Source: Defense News Top 100 for 2021 (based on 2020numbers). Exchange rate applied to BAE Systems is$1.283/£1. 26 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### Accessible global 1 ### defence markets Top ten global defence markets accessible forbusiness by the Group($bn) ### Australia ## 35 ### Saudi ### Arabia 2 ## 47 Sales by ### UK ### destination ## 66 ### Australia ## 4% ### Italy ### Saudi ## 33 Arabia ### Japan ## 12% ## 52 ### UK ### Germany ## 20% ## 55 ### US ### South Korea ## 58 ## 43% ### International ## France 21% ## 59 ### India ## 66 ### US ## 715 1. Markets inaccessible for business by BAE Systems are excluded. 2. Sales is defined in the Financial glossary on page 78. Source: US budget figure is shown as President’s defence budget request for the Department of Defense madeinMay 2021 for fiscal year 2022 and, outsidetheUS,Jane’s Defence Budgets (based on 2021 total defencebudgets and constant 2021 US dollars). BAE Systems plc Annual Report 2021 27 Strategic report ## Our markets continued | US | | UK | | Saudi Arabia | | | --- | --- | --- | --- | --- | --- | | | 1 | | 1 | | 1 | | Sales | | Sales | | Sales | | ## £9,109m £4,201m £2,497m ### The US continues to represent the BAE Systems is the largest defence The Kingdom of Saudi Arabia ### single largest defence market in company in the UK, with strong continues to be a leading military ### the world. BAE Systems is a top ten and long-standing relationships power and one of the largest ### defence prime contractor in the US. with the Ministry of Defence and defence markets globally. ### Through a range of innovative technologies our supply chains. BAE Systems continues to work closely with and proven capabilities, the US business industry partners and the UK government In the UK, the government has re-stated continues to sustain its diverse portfolio to ensure that the export licences required itscommitment to meeting the NATO oflong-term defence programmes for the to enable the Group to fulfil its contractual targetof spending at least 2% of Gross US Armed Forces and international allies. obligations in the Kingdom are in place. Domestic Product on defence. The Defence This US-based portfolio is well aligned to Command Paper issued in 2021 renewed We provide operational capability support enduring customer priority areas. These commitments to our major long-term to the country’s air and naval forces through include electronic warfare, precision-guided programmes in complex warship, submarine UK/Saudi government-to-government munitions, space security, naval ship and combat aircraft design and build, programmes. The Saudi British Defence repairand modernisation and combat allowing for long-term investment in these Co-operation Programme and Salam vehicles. The business continues to work key sovereign capabilities, as well as strong Typhoon project provide for multi-year under Continuing Resolutions which is support for cyber. contracts between the governments. notwithout risk, however the threat | environment is driving continued support | As a result, we have long-term visibility | Saudi Arabia has a strong commitment to | | --- | --- | --- | | for defence spending, which is aligned | forour major UK operations in build and | defence and security spending driven by | | withour expectations for a relatively | support and the Defence Command paper | regional security instability. Saudi Arabia’s | | stableUS market outlook. | identified a number of new capability | Vision 2030 strategy to transform its | | | requirements which will create opportunities | socio-economic landscape by encouraging | The backlog for the US-based business in the coming years. As one of the UK’s private sector investment, unlocking non-oil remains robust and provides good visibility. largest employers of engineers we have related economic opportunities, achieving BAESystems is a leader in advanced acentral role in the engineering and greater regional and global integration and electronic systems, real-time intelligence manufacturing fabric of the country and promoting in-Kingdom industrialisation and analysis, naval gun systems, naval ship weare currently training around 2,500 continues to shape our activities, in support repair and modernisation and tracked apprentices and graduates on our early of Saudi Arabia’s national objectives of combat vehicles. Our position is supported careers programmes. We collaborate with inward technology transfer and investment, by strong positions on a number of suppliers, SMEs and regional partners, economic diversification, local knowledge franchise US defence programmes, including universities, to support and deliver and skills transfer, and the development including F-35 Lightning II, M109 self- long-term economic growth and ofan indigenous defence industry and propelled howitzer, Armored Multi-Purpose productivity, technological know-how capability. We continue to work with Vehicle and Amphibious Combat Vehicle. andthe development of skills. keylocal partners, including Saudi Arabian Inaddition to our position on US defence Military Industries to explore howwecan Cyber security and information advantage programmes, the US-based portfolio is collaborate to deliver further In-Kingdom isincreasingly important and the UK alsofocused on Foreign Military Sales and Industrial Participation opportunities cyberbudget is increasing, and we are direct international sales to allied nations. through the restructuring ofthe Group’s wellpositioned to benefit from this We continue to deliver on and enhance portfolio of interests in a number of increased focus. existing commercial programmes, including industrial companies, along with sustaining engine and flight controls, and electric Opportunities: Leveraging our expertise current industrialised capability, and by drivepropulsion systems and capabilities and capabilities into new domestic and building on our strong history in Saudi weare leveraging to advance sustainable export prospectsand partnerships. Arabia. We remain well placed as a leading technologies across multiple domains. in-country contractor in support of air Risks: Long-term spending on some defence platforms and training systems for Opportunities: Budget increases or capabilities comes under pressure due the Royal Saudi Air Force, as well as support prioritisation towards our capabilities; toeconomic priorities. for mine countermeasure vessels forthe increased Foreign Military Sales; civil Royal Saudi Naval Forces. aerospace recovery earlier than expected; technology investments to market and Opportunities: Securing orders for synergy with existing capabilities; expanded additional support and training, new workscope platform positions; and equipment, upgrades and defence commercial operation expansion especially infrastructure programmes. in sustainable technologies and space. Risks: Scope changes to long-term support Risks: Defence budget constraints driven by contract renewals, changes in spending US debt levels or spend priorities; slower civil priorities, nation-to-nation relations and aerospace recovery cycle post-pandemic. licensing changes. 28 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | Australia | | International | | We have strong | | --- | --- | --- | --- | --- | | | 1 | | 1 | | | Sales | | Sales | | geographical diversity | ## across our business ## £763m £4,740m ### BAE Systems is the largest BAE Systems has many strong and enduring ### defencecompany in Australia, relationshipsininternationalmarkets. ### with strong activities across all Regional security tensions, the growing In Canada, BAE Systems is the warship emphasis on indigenous capabilities and design partner on the Canadian Surface ### domains andthe business is varying economic conditions continue to Combatant programme of 15 ships for ### setto grow significantly in the influence defence spending internationally. theRoyal Canadian Navy. Weare also ### coming years as the Hunter Class BAE Systems has developed and seeks to working on other prospects inCanada. further relationships with partners and ### Frigate programme matures. In Oman we provide support to Typhoon customers in a number of countries. and Hawk aircraft and naval vessels. Regional instability, the impact of the The build contracts for 24 Typhoons and COVID-19 pandemic, and the rapid pace Our US-managed businesses export nine Hawks for the Qatar Emiri Air Force ofmilitary modernisation and technology combatvehiclesand precision weapon areprogressing well and our relationships advancement in the Asia-Pacific region systems toanumber of international arestrengthening as we implement continue to drive the government’s customers andleverage further international oursupport and training commitments commitment to defence spending, markets through our partnerships in withthe Qatar Armed Forces. withmajor recapitalisation programmes defence andcommercial electronics. underway in the air, maritime and land Through our shareholding in MBDA, our In India, we have long-established domains. Underpinned also by its policies position in the missiles and missile systems relationships with local industry partners, ofdeveloping a strong, sustainable market continues to grow in European Hindustan Aeronautics Limited on Hawk andsecure Australian defence industry domestic and other international markets. aircraft and Mahindra Defence Services andsupporting leading-edge MBDA, the Eurofighter consortium and Limited on M777 howitzers. technologicalinnovation, the Australian ourHägglunds business are well placed government continues its policy of tobenefit from the expected European In Turkey we are collaborating on the approving a ten-year funding model defence spending increases as a number initialdevelopment phase of the indigenous fordefence. ofcountries look to move nearer to their fifth-generation fighter jet, TF-X, for the NATO commitments. Germany and Spain Turkish Air Force and we maintain our As part of this commitment, the are considering future Typhoon orders, and position in armoured combat vehicles government has made clear its objective further Typhoon production and support forTurkish and international customers tobuild a robust, resilient and opportunities are being pursued in the through the FNSS joint venture. internationally competitive domestic Middle East andEurope. defence industry to ensure the expertise In the Asia-Pacific region, we are a supplier resident in the industrial base effectively We have a strong presence in Sweden to a number of armed forces, both directly supports Australia’s national security. through BAE Systems Hägglunds, and through joint ventures. supplyingand supporting tracked vehicles The AUKUS announcement in September Opportunities: Recapitalisation of ageing for international customers. The UK, Italy isstrategically significant and we will equipment and the threat environment andSweden signed a Memorandum support our Australian customer as mean there are export prospects in existing ofUnderstanding to collaborate on the discussions progress. We believe we are and new markets. Tempest project at the end of 2020 which wellpositioned to assist the Australian isprogressing well. We also welcome the Risks: Threat environment and political government to meet its defence and news issued in December 2021 outlining priorities change and economic pressures security objectives through an established deepening sub-system collaboration mean defence spending reduces or business and workforce based at more between the UK and Japan on the isdeferred. than25 sites across the country, in addition Tempestprogramme and we continue to a strong ability to leverage BAE Systems’ tosupport the UK government in this international positions to support domestic positive, ongoing process. products in international markets. Opportunities: Securing additional workshare from the increased spending outlook and the AUKUS agreement. Risks: Long-term spending in some capabilities comes under pressure due tochange of government priorities. 1. Sales is defined in the Financial glossary on page 78. BAE Systems plc Annual Report 2021 29 Strategic report ## Our key programmes and franchises ## BAE Systems has strong, established and growing positions supplying defence equipment, ## electronics and services, as well as cyber, intelligence and security solutions for governments. ## We also have adjacent commercial positions, including in the sustainable technology and ## space markets, which we aim to expand pursuant to our strategy. ## The programmes and franchises underpinning these positions are primarily long term ## innature giving us high visibility of our order backlog. Thisallows for long-term planning ## toensure we have the right people, processes and facilities to enable delivery. ## Electronic ## Systems Page 82 Segmental review ## Platforms & ## Services ( US ) ### Defence electronics Page 86 Segmental review Design, manufacture and support of avionics equipment across a range of US and other allied nations’ military aircraft programmes, including a leadership ## Air positionin the electronic warfare market. Our leading position on the US fixed androtary wing platforms, an increasing number of which are coming into service, and a strong demand for capability and Page 90 solutions to defeat increasingly sophisticated Segmental review threats, are expected to provide this franchise with a solid platform for the coming years. ### Commercial avionics equipment ## Maritime Design, manufacture and support of avionics equipment across multiple commercial aircraft platforms, including engine and flight controls, and cabin and Page 94 Segmental review cockpit systems, together with aftermarket support services. BAE Systems is a leading supplier of engine controls for GE, and is amajor supplier of flight control electronics for Boeing and other aircraft platforms. ## Cyber & Revenues reduced due to COVID-19 impacts on the civil aerospace sector and we scaled the business appropriately, working with ## Intelligence our key customers. However, we have maintained our capabilities to meet the Page 98 Segmental review expected return of long-term demand asbusiness operations normalise. ## We have strong technological ## andprogramme diversity 30 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | Weapon systems and munitions | Submarines | Combat vehicles | | --- | --- | --- | | Design and manufacture of naval gun | Design and manufacture of seven Astute | Upgrade of tracked vehicles, including: | | systems, munitions, torpedoes, radars, | Class nuclear-powered attack submarines | Bradley Fighting Vehicles and M88 recovery | | navalcommand and combat systems, | for the Royal Navy. The first four Astute | vehicles; design and manufacture of | | artillery systems, missile launchers and, | Class submarines are in operational service | M109self-propelled howitzers and Armored | | through a 37.5% interest in MBDA, | with the Royal Navy, while the fifth boat | Multi-Purpose Vehicles; and development | | missilesand missile systems. BAE Systems | iscontinuing final commissioning in | ofnext-generation combat vehicles. | | also manages and operates complex | preparation for sea trials later in 2022. | Manufacture of amphibious vehicles for | | ammunition plant operations for the | Theremaining two boats are at an | theUS Marine Corps and international | | USArmy to produce insensitive munitions | advanced stage of build, and the final | customers. The franchise offers good | | and propellant grains. The increasing | boatis expected to enterservice in the | visibility with a robust backlog of combat | | number of new platforms entering service | mid-2020s. Design and manufacture of | vehicles to be delivered in the coming years | | in the coming years will create opportunities | fourDreadnought Class nuclear-powered | by US Combat Mission Systems, together | | within this broad set of capabilities. | submarines to carry the UK’s Trident | with upgrade, production and support | | | ballisticmissiles. Manufacture of the first | awards for CV90 and BvS10 combat vehicles | ### F-35 Lightning II manufacturing | | two Dreadnought Class boats is underway, | by the Hägglunds business in Sweden. | | --- | --- | --- | | | with production on the programme to | Vehicle upgrade, build and support to | | Design and manufacture of sub-assemblies | continue into the 2030s. | theBritish Army through a joint venture | | in the UK, including the aft fuselage and | | with Rheinmetall. | | empennage. Provision of equipment in the | Naval ship repair and support | | | US, including the electronic warfare suite. | | Cyber security and intelligence | | BAE Systems has a significant workshare | Provision of naval ship repair and | | | onthe world’s largest defence programme. | modernisation services in the US and | Delivery of a broad range of intelligence | | Full-rate production levels were achieved | UK,together with support to the navies | andsecurity services toenable the | | in2021 with production now expected | ofthe US, UK and Australia, at home and | USmilitary and government to recognise, | | tobe maintained for over a decade, based | on deployment. In the US, BAE Systems | manage and defeat threats. Support | | on a programme of record of more than | hasfacilities located on the Atlantic and | toUKand other government agencies in | | 3,000 aircraft. | Pacific coasts. In the UK, we operate HM | theirintelligence missions. Provision of | | | Naval Base Portsmouth on behalf of the | anti-financial crime solutions for the | ### Air support and training Ministry of Defence. Our key customers financial services sector. The increasingly inthe US, UK, Australia and Canada are sophisticated technology and threat Provision of support to operational looking to extend and modernise the size environment is leading to increased capability, including maintenance, support oftheir fleets in the coming years which government cyber spend in markets such and training for Typhoon aircraft in service willcreate further support opportunities. asthe US, UK and Australia, and we are with the UK, Saudi Arabian and Omani well placed tosupport our customers in ### airforces. Under the Saudi British Defence Complex warships these markets. Co-operation Programme, delivery of | contracts for labour, logistics and training, | Design and manufacture of up to eight | Space | | --- | --- | --- | | training aircraft (including Hawk) and | Type26 frigates for the Royal Navy. The | | | upgrades to Tornado aircraft in | firstType 26 is expected to be delivered | World leader in radiation-hardened | | SaudiArabia. Contracts to support Hawk | inthe mid-2020s. Contract signed in 2018 | electronics for spacecraft and satellites | | aircraft across 14 countries andsupport | with the Australian government that | withmore than 10,000 cumulative years | | forthe F-35 Lightning II fleetand systems | provides the framework for the design | inorbit. Our orbital expertise combined | | across the UK, US andAustralia. | andmanufacture of up to nine Hunter | with next-generation ground resiliency | | | ClassFrigates. Provider of the warship | anddata analytics solutions help to keep | ### Typhoon and Hawk manufacture design for the Canadian Surface Combatant assets performing effectively in the harsh ### and capability development programme. This business is accordingly environments of space. The acquisition of well positioned for sales growth in the In-Space Missions has added the capability Manufacture of Typhoon major units and coming years. to design, build and operate satellites and final assembly of aircraft. Expansion of the satellite systems. ### Unmanned and future capabilities of the aircraft with the E-Scan ### airsystemcapabilities Sustainable technology radar and ongoing development of new technologies aligned with the UK Combat | Air Strategy and forward progress on the | Development of future air system | Global leader in electric drive systems | | --- | --- | --- | | Tempest programme. Current backlog | capabilities, including joint investment | forlow and zero emission bus propulsion | | includes the Qatar contract signed in 2017 | withthe UK government and industry | systems with an extensive installed base of | | to provide Typhoon and Hawk aircraft | innext-generation combat air systems | these systems. We are leveraging our existing | | alongwith a bespoke support and training | under the Tempest programme, which | product portfolio and advancing sustainable | | package. Typhoon manufacturing is | waslaunched in 2018 in support of the | vehicle mobility, efficiency and capability | | currently underpinned by the orders from | UKCombat Air Strategy. The Tempest | fora range of applications in urban transit, | | Qatar and Germany which will ensure | programme is progressing at pace, with | maritime and military markets. | | continuity of production of major units | Tempest partnerscurrently working on | | | intothe mid-2020s. | more than60technology demonstrations, | | and we received an initial Concept and Assessment Phase contract. BAE Systems plc Annual Report 2021 31 Strategic report ## Our operational highlights ## In 2021, we delivered on our customer-critical key ## programmesin a challenging global environment. > ### Advancing and ### furtherleveraging ### ourtechnology Technology investments increasing across the business, positioning the Group towards future growth areas. > | F-35 full-rate production | Qatar contract milestones | | --- | --- | | achieved in 2021 | continueto be achieved | | F-35 rear fuselage assemblies | Qatar Typhoon and Hawk | | reached full-rate production | programme progressing well, | | in2021, with 151 assemblies | withfirst five Qatari Hawks | | completed in the year. | havingentered into service at | RAFLeeming, and first Typhoon flight completed prior to entry into service. UK MoD © Crown Copyright | F-35 electronic warfaresystems | Electronic Systems acquisitions | | --- | --- | | Electronic Systems surpassed a | performing as integration continues | | cumulative delivery milestone of more | Integration continues to progress for our | | than 1,000 F-35 electronic warfare | 2020 acquisitions, and the Precision Strike | | systems by year-end, and continues to | & Sensing business received more than | | support Block 4 modernisation efforts | $600m (£443m) in new 2021 contracts | | under contracts worth more than | from the Defense Logistics Agency. | $870m (£642m). > ### Continued effective response ### toCOVID-19 Ongoing focus on employee safetyand adapting to evolving environment to deliver on customers’ critical programmes. 32 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance > | Maritime Services | Fifth Astute Class | | --- | --- | | supportto Royal Navy | submarinelaunched | | UK Carrier Support Group | Astute Boat 5, Anson, | | 2021 was supported | launched in April and is | | fromPortsmouth and in | preparing for sea trials. | various locations on its deployment by our Maritime Services business. ### Construction of Dreadnought > ### Classsubmarines Construction of Boat 1 andBoat2 continues on theDreadnought Class ofsubmarines. ### Global Combat Ship ### continues to progress in the ### UK, Australia and Canada Type 26 City Class frigate construction for the RoyalNavy continues. Australia Hunter Class frigateis progressing throughprototyping, and Canadian Surface Combatant entered a key design stageinDecember. UK MoD © Crown Copyright | Acquisition of In-Space Missions | Continued increases in US | | --- | --- | | The acquisition combines the | combatvehicles production | | Group’sexperience in highly | Process and automation improvements | | securesatellite communications | continued to support increased combat | | withIn-Space Missions’ full | vehicle production levels, notably on | | lifecyclesatellite capability. | M109, Armored Multi-Purpose Vehicle and | Amphibious Combat Vehicle programmes. > ### Multiple new international ### combat vehicle contract wins BAE Systems Hägglunds secured multiple contracts forCV90 andBvS10 work, and RBSL won the Challenger 3 Main Battle Tank contract. BAE Systems plc Annual Report 2021 33 Strategic report ## Our investment in technology ### Technology and innovation are central to our business. They underpin our Collaboration ### strategy and the development of our products and services. Developing ### innovative technologies is a key part of the work we do to ensure we have ### asustainable business that will continue to create value for our stakeholders ### and inspire our employees. The global defence environment is Space has been recognised by many changingrapidly and is characterised by ofourcustomers as a key enabler of constant competition, from sub-threshold multi-domain integration, by allowing cyber activities, the deployment of communications over global distances autonomous platforms and the testing andproviding real-time intelligence and ofadvanced high-speed weapons with reconnaissance data. We have acquired global reach. Our customers across NATO In-Space Missions, aspecialist Low Earth Collaborative working is core to how are seeking to address these threats and Orbit company in theUK that gives us wewillhelp solve tomorrow’s technology weare developing cutting-edge technology theability to design, manufacture and challenges. In the UK, the University of to support them. At the same time, both operate satellites in space. Nottingham has become our sixth strategic our defence and civilian customers are university partner in fields such as advanced This acquisition adds to the considerable seeking more sustainable products, which manufacturing and electrification of aircraft. space capability already present in the iscentral to our future product development Together we are re-writing the rules of UKand US businesses. In the US, our and the evolution of our own operations. manufacturing high value, low production radiation-hardened electronics have been rate products, which is vital in creating One of the most important steps we atthe heart of every NASA mission from Tempest, the future combat air system. | aretaking is to help our customers in | Apollo 11 to four generations of Mars | | | --- | --- | --- | | theintegration of air, land, sea, space | Rovers/Landers, including the Perseverance | Our Australian business has a similar | | andcyber domains, in order to combine | Rover that landed in February 2021. In the | partnership with Flinders University and | | data into a single view to improve | UK we have specialist space technologies | theUniversity of New South Wales, who | | battlefieldcoordination and speed. As well | inwaveforms, electronics, antennae and | arehelping create what we aim to be | | as developing multi-domain digital battle | digital signal processing and analytics. | theworld’s most sustainable shipyard, | | management solutions, we are also working | Weare currently developing a new suite of | which will build the Hunter Class frigates. | | on the next-generation hardware needed | software-defined radios that could provide | The US business partners with an extensive | | for securely sharing the enormous volumes | both global positioning and command and | number of colleges and universities to | | of data required. | control services from Low Earth Orbit, | notonly collaborate on building our | | | helping our customers to be more resilient | STEMtalent pipeline, but also to solve | We are using this unparalleled breadth | | and connected. | technology challenges. For example, in 2021 | | | --- | --- | --- | --- | | ofexperience across every domain and | | | ™ | | | | the Electronic Systems FAST Labs | team | | oursystems experience to create multi- | The growth of autonomous platforms | | | supported students at Rochester Institute of domain digital technologies. Together fielded around the world presents a Technology in a capstone project to develop withour partner Sierra Nevada Corporation, challenge for western militaries, including a search-and-rescue system in which the US Air Force awarded us a contract how these systems can be effectively multiple drones, equipped with on-board, todevelop its next-generation signals countered while maintaining human autonomous mission software, could intelligence technology. The team will oversight and decision-making over the collaborate to quickly and efficiently search provide a sensor prototype that collects useof force. This is a challenge we are an area and find an object. andanalyses adversaries’ electronic signals committed to helping them meet by to provide actionable insights. Our open contributing to a more resilient global As well as academic partners, we collaborate architecture design means that our digitalinfrastructure, as well as with businesses in other industries such as customer can easily add new capabilities autonomoussystems that complement Williams Advanced Engineering, a key player inthe future to counter evolving threats. humans rather than replace them. in motorsport. They are helping us bring electrification technology to some of our In the US we are investing in the development In the UK we continue to develop our most critical products, replacing highly of a virtual System of Systems Testbed, a PAC-24 autonomous boat, which has been volatile fuel with batteries and improving digital engineering platform that models, extensively trialled with the Royal Navy, the efficiency of electric motors. | simulates and evaluates both emerging | while we have also worked with the | | | --- | --- | --- | | capabilities as well as advanced data | Australian Defence Force to retrofit the | We also apply technology from one domain | | management processes, before they are | M113 armoured vehicle with our platform- | into others. Our US business has brought | | deployed into multi-domain operational | agnostic autonomy module. Both platforms | itsdecades of flight control expertise to | | environments. The US Marine Corps selected | have shown promising results and are | theUK’s Dreadnought Class submarines. | ™ BAE Systems’ PIONEER prototype to move acting as testbeds to integrate autonomy The team is developing electronics that to the second phase in the development into existing operations. We are also control the heading, pitch, depth and and integration of a new, digitally advanced working closely between the UK and buoyancy of the submarines to the highest Wargaming and Analysis Center. Our team Australia to use secure open architectures levels of safety and reliability, adapting is demonstrating its innovative modelling for these platforms, so that they can be controls usually used in fly-by-wire aircraft and simulation for the digital transformation integrated into our customers’ existing to a maritime environment. of wargaming across multiple domains using platforms without limiting their choice of cutting-edge, explainable artificial intelligence, provider. The same Australian-developed machine learning, andpredictive analytics autonomous system is being provided in to support timely and effective decision- Boeing’s Loyal Wingman for the Royal making at all levels. Australian Air Force. 34 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance Sustainability Research & development (R&D) In 2021, we spent £1.6bn (2020 £1.6bn) onR&D, of which £255m (2020 £236m) wasfunded by BAE Systems. In addition, the Group’s share of the R&D expenditure of its equity accounted investments in 2021was £0.4bn (2020 £0.4bn). We continue to protect our investments in technologies and have a portfolio of patents and patent applications covering more than 2,500 inventions internationally. Combined with a clear strategy for managing our Technology will be at the heart of meeting We structure our R&D activities around intellectual property (including technology our net zero targets. The work we are ourbusiness and product strategy, ensuring and know-how), we seek to create value doingnow on new digital manufacturing a clear focus for our R&D spend. We also indifferent ways through, for example, techniques is finding new ways to save continually scan the horizon for new collaboration, licences and sales of rights energy, while the improvements we are technologies and developments in defence toothers. making to operational bases is already technology around the world. saving energy. As an example of this, working with the Royal Navy, estate CO 2 emissions from Portsmouth Naval Base in ### the UK have fallen by more than 40% since 2022 priorities 2004, even though energy demand has BAE Systems already offers data and fight at the speed of machine-warfare almost doubled recently due to the needs digital services across all the domains and maintain command and control of ofthe aircraft carriers at the base. itoperates in, including sub-sea, sea, their assets. In the US we are bringing our proven land, air, cyber and space. In 2022 we Sustainability remains an important expertise in electrification – with more than will focus on creating an information areaoffocus for our business and our 14,000 electric drive propulsion systems advantage for our customers by working customers. We continue to offer low installed worldwide today – into an area of with them to better integrate digital andzero emissions solutions, to include potential global significance, electric flight. services across these domains. electric, battery electric, fuel-cell electric, We are progressing technologies that will Our acquisitions in 2021 help to and hydrogen options, supporting clean enable lighter weight, cost-competitive underpinthis approach, enhancing airand net zero initiatives, while also energy storage solutions for hybrid aircraft ourspace-based secure communication advancing vehicle mobility, efficiency engines including our collaborative work services and satellite design and andcapability in urban transit, maritime with Jaunt Air Mobility and others. operation through In-Space Missions, and military markets. We are working withMalloy Aeronautics, and our electromagnetic hardware As well as making oursites more energy aUK-based SME specialising in electric services through Pulse Power and efficient we aredeveloping Industry 4.0 uncrewed air vehicles, to create a new Measurement Limited (PPM). technologies tomake manufacturing all-electric heavy lift quadcopter. This Electronic Warfare continues to be a more sustainable. Weare working with hasthe potential to deliver cost-effective, focusin our US business, as full-spectrum several university partners in the UK and sustainable rapid response capability to awareness and the ability to respond Australia on sustainability with digital military, security and civilian customers, giveour customers a distinct competitive design, additive manufacture, novel without putting human pilots at risk advantage. As a world leader with six materials and new power generation whenused in hazardous locations. decades of proven experience in electronic systems. These continue to play an We have secured funding from the warfare capabilities, we will continue to important role on the Tempest combat UKDepartment of Transport to design, grow this area of the business to address air programme. In the US, we are develop and demonstrate new power emerging requirements, to include applying innovative modelling, simulation andpropulsion technologies for London, developing interoperability in the joint and digital engineering across multiple with the potential to reduce emissions environment across all domains, which business programmes, such as combat across global waterways. In addition to isa critical element of current and vehicle design, the US Marine Corps electric propulsion and power management, next-generation programme Wargaming and Analysis Center work, we are exploring the use of autonomous requirements and force modernisation. andour modernisation support of maritime capabilities to transport people theUSNavy’s Strategic Systems Program. We are also continuing our development and goods around the city. | ofautonomy to complement humans, | See examples of how we are using our | | --- | --- | | both in crewed vehicles such as Typhoon | technologies to reduce the environmental | | and in new uncrewed platforms such | impact of our activities on pages 48 | | asPAC-24 and the Loyal Wingman in | and49. | Australia. The future battlefield will become increasingly autonomous, so it isessential that we help our customers BAE Systems plc Annual Report 2021 35 Strategic report Sustainability – Environmental, Social and Governance ## Our agenda and governance ## We are a business that operates responsibly and sustainably, ## addressing our material Environmental, Social and Governance | ( ESG | ) risks and opportunities via our sustainability agenda. | | | | --- | --- | --- | --- | | Introduction | | From a materiality perspective, during | During 2021, both safety and diversity | | | | 2021we engaged with internal and external | wereset as qualifiers to the overall award | Our sustainability agenda supports our stakeholders regarding material sustainable ofthe non-financial element of the purpose (see page 1) and aligns stakeholder issues for the Group. This materiality process executive bonus. In other words, good priorities with the Group’s ESG risks and confirmed that the Group is addressing and performance in both of these areas is opportunities. Our objectives go hand in hand managing, via its sustainability agenda, the expected rather than rewarded. Other with our focus on improved performance material ESG issues. elements specifically set within the and we continue to increase our ambitions non-financial element of the executive and accelerate our progress across this area. ### Integrating ESG into our operations objectives are related to employee We are working towards a consistent, Our sustainability agenda is driven from the engagement, delivery of the next phase aligned framework and strategy from the top by our Chief Executive who has primary ofthe net zero plan and driving an Board through to the shop floor. Awell- responsibility for delivery of the Group’s inclusiveculture. understood and clear programme is critical strategy. He is supported on sustainability The sectors address customer requirements as we progress towards our targets and look matters by the Group ESG, Culture and taking into account our ESG principles and to retain and recruit the very best talent to Business Transformation Director who uphold our Code of Conduct with employees, drive strong operational performance and advises on our strategy with input from partners and suppliers. Sector progress value for our customers and shareholders. awide range of stakeholders. against our sustainability agenda is regularly While ever-evolving, ESG themes are not Our Board Environmental, Social and reviewed via our Quarterly Business Reviews new to us, as we have been addressing Governance Committee provides oversight and CEOBusiness Reviews. them for many years with a robust of the Company’s agenda and progress, Cross-functional and cross-sector steering operational framework (see page 118) including approving ESG-related objectives groups provide oversight and assurance and andreview process in place. and targets which form part of executive our operational assurance framework and incentives. To support this, they hear from ### ESG in the defence sector Internal Audit confirm compliance with both senior management and the Company’s policies and processes. We all recognise the ESG agenda is subject matter experts. The Environmental, broad,with many criteria and changing Social and Governance Committee routinely ### Our approach to UN Sustainable priorities. Through engagement with our reviews data and participates in site visits and ### Development Goals stakeholders, we focus on the ESG areas virtual meetings to engage with employees We continue to support the UN Sustainable which are most material to our sector, and hear their views. This feedback is an Development Goals (SDGs) and remain ourcommunities andour business. We then important element as it gives the committed to driving progress on specific apply a collective focus in addressing and Committee the chance to reflect employee goals that are aligned to our sustainability managing the associated risks with our perspectives intoboardroom discussions. agenda. The SDGs provide a framework for customers and supply chain. development and address the challenges that the global population faces from tackling climate change and environmental risks through to managing societal needs and building economic growth. ### Well-positioned Long-term ### Sustainability We continually review the SDGs to ### portfolio programmevisibility ### agenda whichtheGroup can contribute directly. The launch of our net zero ambition in 2021 means we have added SDG 13 – Climate Action, to the list of SDGs we directly contribute to. We have also addedSDG 16 – Peace, justice and strong Environment Governance Social institutions, which reflects our Company – Goal to reduce – Governance and business – Our people and values purpose, in particular our role in helping environmental impact conduct –developing talent ourcustomers provide security and safety, ofour activities and our commitment to governance, – Responsible supply chain – Positive social and – Committed to TCFD economic impacts ethicsand responsible behaviour. recommendations – Technology investment The Group contributes to the six SDGs – Target net zero greenhouse – Safety and wellbeing onthe following page, by leveraging the gas emissions across our – Human rights individual elements of our sustainability operations by 2030 agenda which will drive change for the Group and its wider stakeholders and Further embedding sustainability into communities. The global and wide-ranging Benefit to all stakeholders business through strategic objectives nature of our business means that our programmes influence other SDGs. ### Accelerating our ambitions 36 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### Non-financial information statement This section and the following sections of the Strategic report entitled ‘Sustainability – Environmental, Social and Governance’ (pages 36 to67) constitute the Non-Financial Information Statement as required by the Companies Act 2006 as amended, together with the sections ‘Our business model’ (pages 16 to 17), ‘Our stakeholders’ (pages 18 to 19) and ‘The work of the Board’ (pages 22 to 25) which are incorporated inthis non-financial information statement by reference. ### Our sustainability agenda contributes to the following UN Sustainable Development Goals: ### Quality Decent work and Industry, innovation ### education economicgrowth andinfrastructure We work closely with schools, colleges, training We contribute to economic productivity by We structure our R&D activities around providers and universities as well asengineering investing in people, skills and innovation ourbusiness and product strategy, ensuring and business organisations inour principal markets throughout our value chain. Thisinvestment is aclear focus for our R&D spend. We also to promote and inspire people to pursue careers strengthened by our commitment to continue continuously scan the horizon for new in Science, Technology, Engineering and Maths. tocreate a diverse and inclusive work technologies and developments in defence environment, underpinned by safe work practices technology around the world. We create employment opportunities acrossour promoting employee wellbeing, maintaining organisation via our apprentice, graduate, career As well as partnering with our customers, robust governance systems andefficiently using development and recruitment programmes to wework with other companiesand academia natural resources. help increase youth and adult employment. toinvest in technologies and assets that complement our existing capabilities and We will continue to support and encourage ourfuture product development. ouremployees to develop their skills to engage inlifelong learning via our training and development programmes. ### Responsible Climate Peace, justice and ### consumption action stronginstitutions ### andproduction | We are committed to reducing the | We are targeting the achievement of | We play a significant role in protecting nations | | --- | --- | --- | | environmentalimpact of our operations and | netzerogreenhouse gas emissions across | and keeping people safe. Our products and | | value chain by actively managing the energy | ouroperations (Scope 1 and 2) by 2030 by | services enable governments to defend the | | andresources that we use. | reducing our emissions as a minimum in | livesand freedoms of people around the | | | linewiththe 1.5°C pathway, and working | world,support international stability, and | Our products are built to be in active service towards a net zero value chain by 2050. keeppeople safe, both at home and overseas. fordecades and we work with our customers Our technologies and people also support andsuppliers to develop innovative technology We will collaborate with our suppliers policing and law enforcement. that is designed to reduce the environmental andcustomers, and partner with impacts of such products. researchersandtechnologists to innovate Our success depends on us being trusted to foranet zero future. uphold high standards of governance and business conduct and we have an unwavering commitment to ethics and responsible behaviour, from anti-bribery to anti-corruption. ### Our programmes influence these Sustainable Development Goals: ### Our progress on Sustainable Development Goals: | Our UN Race to Zero | Increasing our gender | Our commitment | Our accreditation as | | --- | --- | --- | --- | | target on the back | diversityambition to greater | tocease handling | a real living wage | | ofour bold 2030 | than 30% in the UK by 2030 | white phosphorus. | UK employer. | | target. | and 50% of the Executive | | | Committee by the same date. BAE Systems plc Annual Report 2021 37 Strategic report Sustainability – Environmental, Social and Governance ## Climate change and the environment ## Climate change is one of society’s greatest challenges. There is growing ## recognition of the impact of climate change on the future success of ## businesses. This includes, for our business, the physical impacts of climate ## change and the impacts of transitioning to a low carbon economy. Solving the challenge of climate change We know that innovation is key to requires all of us to act together, with deliveringa sustainable future and Climate change and the environment urgency. One of the focus areas of our managing the challenges posed by climate sustainability agenda is to play our part change. We have a responsibility to use inaddressing the significant and lasting ourexpertise to pioneer new ways to tackle ## Climate impact of climate change. As a defence the very real threats of climate change, andsecurity company, technology is at the learnfrom others, collaborate and share core of our business and we must leverage best practice to achieve this common goal. this while progressing our ambition of net We are already using technology to ## riskand | zero greenhouse gas emissions. Our goal | transform our operations. It is important | | | --- | --- | --- | | istodevelop and implement a long-term | forus as a defence company, to understand | | | strategy that reduces the impact of our | the challenges that climate change will | | | activities, supply chain and products on | bring so that we continue to design systems | opportunity | | theenvironment. | fit for operation in these future environments. | | | We are progressing our net zero ambition | We are also managing our other | | | and are developing milestones in line with | environmental impacts too, supporting | scenario | | the UN Race to Zero via the Business | responsible consumption and managing | | | Ambition for 1.5°C pathway. Part of our | environmental impacts across our operations. | | | strategy is to reduce our energy consumption, | We recognise that all of our operations | | ## planning purchase renewable energy and develop havean impact on the environment, from on-site renewable electricity supplies where the energy and resources we use, to the practicable. As well as innovating for a net products we manufacture and the waste zero future for ourselves, we are also wegenerate. We continue to look for ways working with governments and commercial to reduce energy use, water consumption customers to design sustainable solutions and waste, emissions and other discharges, tohelp reduce greenhouse gas emissions as well as to reduce the impacts of our and assist them with their transition towards products and supply chain. net zero. We also intend to work with our supply chain to reduce emissions. 38 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | We welcome the development of | We are exposed to a number of risks | We have prioritised sites requiring | | --- | --- | --- | | theTask Force on Climate-related | associated with a shift to a low carbon | hazard-specific surveys, which | | Financial Disclosures (TCFD) | economy, the most material of these | willleadto the identification and | | recommendations and recognise | risks over the medium tolong term | implementation of risk improvement | | climate change as one of the biggest | being thecost of substituting existing | recommendations, which may include | | threats the world faces, and one | products and services with lower | investment to improve facilities, for | | whichposes particular challenges | emissions options and disposal | locations not previously assessed. | | toourbusiness. Supporting a low | oflegacyassets. Associated with this | Weare also modelling climate | | carbon transition will enhance our | are potential risks around our ability | scenariosfor Tier 1 critical suppliers. | | business resilience byproviding | toattract and retain future talent. | | We have conducted a qualitative newopportunities. | | While we recognise these risks, the | reviewintothe scenario attributes | | --- | --- | --- | | Climate change and nature-related | opportunity around the transition | oforderly (below 2°C), disorderly | | risksandopportunities extend | isalso significant for BAE Systems over | (approximately 2°C) transition scenarios | | beyondnormal business strategic | themedium to long term. There is | and a business as usual (greater than | | planning cycles. Climate change and | anopportunity for us to play a key role | 4°C) scenario considering peer- | | nature-related risks have the potential | inenabling the low carbon transition | reviewed, publicly available third party | | to impact BAE Systems over short- | through our development of innovative | scenarios, including the International | | (lessthan two years), medium- (three | newtechnologies. There is growing | Energy Agency (IEA), Network for | | toten years) and long-term (beyond | demand, and therefore revenue streams, | Greening the Financial System (NGFS) | | tenyears) time horizons. | forlow emissions products and services | and the IPCC’s Representative | | | from new and existing customers, | Concentration Pathways. | To better understand how the potential includingin adjacent sectors. long-term impacts of climate change We have reviewed these qualitative could impact our business, in line with Beyond transition aspects, we also scenarios along with the material risks the TCFD recommendations, this year recognise the risks arising from physical and opportunities identified. We have we have begun the process of climate changes in climate, in particular the significant experience in managing change scenario analysis. We have potential impacts of extreme weather ourexposure to physical risks and our conducted qualitative climate change events impacting our operational sites strategy to manage those risks already risk and opportunity hotspot mapping andequipment where we operate takes into account different climate with representatives from across our around the world, as well as risks to change scenarios. From the data we business to obtain a better oursuppliers. We are already taking already have available we have a good understanding of the climate issues that action around extreme weather events view as to which of our assets are at could impact the business in the future. using analytical tools to apply natural most risk thereby enabling us to address catastrophe classifications to our main those risks. We identified the climate-related risks operational sites worldwide. In 2020, and opportunities with the potential to In relation to the transition risks we conducted a refresh of this data impact BAE Systems’ business model wehave incorporated the future andduring 2021 we modelled climate and strategy by developing high level sustainability of our operations scenarios for 2030, 2050 and 2085, impact pathways todemonstrate the andthefurther development of our which gives us a portfolio-level causal links between the risk and netzero roadmap into our strategy. understanding of the Group’s opportunity drivers and the expected Ourwork to date in relation to net exposureto natural hazards, both impacts based on likelihood zerohas focused on a 1.5°C pathway current and future. ofoccurrence and the potential to and based on current information impact theGroup in terms of costs, webelieve our strategy is sufficiently revenue and asset value. resilient to respond to transition risks associated with that scenario. We have started to progress quantitative climate change scenario analysis which will enable us to enhance the maturity ofour views in this regard. BAE Systems plc Annual Report 2021 39 Strategic report Sustainability – Environmental, Social and Governance ## Climate change and the environment continued ### We have included in this report climate-related disclosures consistent ### withthe TCFD Recommendations and Recommended Disclosures ### pursuant to Listing Rule 9.8.6(R)(8). Thefollowing table summarises ### ourdisclosures and refers to where furtherdetail on climate-related ### financial disclosures is located: ### Governance Our Board oversees, through the Environmental, Social and Governance Committee, our Page 24 The work of the Board – climate change approach tosustainability, including climate change. TheCommittee ensures that appropriate Page 42 climate change and environmental programmes are in place and incentives are set as required Embedding climate considerations into to reduce the Group’s environmental impact. howwedobusiness Page 43 Our Executive Committee receives regular updates and briefings on our net zero agenda and Our net zero programme during 2021were set bonus-related objectives (see page 152 of the Annual remuneration Page 118 Operational framework report) to support ourprogress in net zero, including supporting development of sector net Page 134 zero roadmaps. Environmental, Social and Governance Committeereport Day-to-day responsibility for environmental issues including climate-related issues sits with Page 139 ourGroup ESG, Culture and Business Transformation Director. Remuneration Committeereport Our Operational Framework provides a robust governance structure, policies and processes that manageclimate-related issues wherever weoperate. ### Strategy During 2021, the Group revised its strategic framework to include ‘advance and integrate Page 14 Strategic framework oursustainability agenda’, which includes our response to climate change and our net zero Page 38 programme to reflect our commitment to sustainability. Scenario planning Page 43 In response to climate change we are developing and implementing a long-term strategy to Our net zero programme progress our ambition of net zero greenhouse gas emissions across our operations and value chain. This strategy, which is aligned to the Paris Agreement, is intended to ensure that our business is resilient to climate-related risks and opportunities. During 2021, we further developed our understanding of the climate-related risks andopportunities with the potential to impact BAESystems’ business model and strategy. Wearenow progressing quantification of material risk and opportunities against identified scenarios. Further work is planned for 2022 to enable us to develop our views in relation tothe resilience of our strategy. Our strategy starts with emissions reductions, for example improving energy efficiency andintroducing cleaner technologies, and also includes purchasing renewable energy and collaborating across our value chain. We also intend to continue to take into account opportunities associated with climate change, including the ways in which we can use our advanced engineering capabilities and world-class technologies to develop new products and services that support low carbon or reduced emissions requirements. 40 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### Risk management Our approach to identifying, assessing and managing environmental risks, including climate- Page 38 Scenario planning related risk, is embedded within our approach to risk management. Environmental risks may Page 43 present as financial or non-financial risks depending on the extent to which their impacts can Climate and environmental risk management be quantified, and how they have been classified. Page 104 How we manage risk Climate change and environment is a principal risk for the Group. Page 107 Our principal risks Page 134 Environmental, Social and Governance Committeereport ### Metrics and targets Many of the climate-related risks and opportunities we face are related to the transition to Page 43 Our net zero programme alow carbon economy. The adoption of our net zero action plan is a key part of addressing Page 45 these risks. Accordingly the key metric we are currently using to assess these risks is our 2021 key environment data greenhouse gas emissions data. Page 46 Greenhouse gas emissions data We report greenhouse gas Scope 1, 2 and 3 (employee business travel only) emissions in linewith the Streamlined Energy and Carbon Reporting (SECR) regulations. We also report dataon electricity, waste and water. Businesses set objectives to improve the performance of their operations such as reducing energy used and the generation of waste, emissions and other discharges, such as effluents. Some of our businesses also set targets to reduce water consumption. We aim to reduce our emissions as a minimum in line with the 1.5°C pathway by achieving netzero greenhouse gas emissions across our operations (Scope 1 and 2) by 2030 and by implementing the actions set out in our net zero roadmaps for the relevant businesses, and working towards a net zero value chain by 2050. We have joined the UN Race to Zero via the Business Ambition for 1.5°C campaign. Our UK business intends to submit net zero milestones for theScience Based Targets initiative during2022. We will look to extend this to other parts of the Group as we mature the development of our net zero roadmap and our related internal processes. BAE Systems plc Annual Report 2021 41 Strategic report Sustainability – Environmental, Social and Governance ## Climate change and the environment continued ### Embedding climate considerations The Board is informed byclimate Day-to-day responsibility for environmental change-related issues whensetting its issues, including those related to climate, ### into howwedobusiness overall strategy. During 2022, the ESG and our net zero programme, sits with Our Board oversees, through the Committee will agree net zero milestones ourGroup ESG, Culture and Business Environmental, Social and Governance with the Company to sustain and Transformation Director. She is part of (ESG)Committee, that appropriate climate accelerateprogress. theEC and attends the ESG Committee changeand environmental programmes meetings and gives regular updates on our arein place and incentives are set as During 2021 the members of our Executive environmental and net zero programme. required to reduce the Group’s impact Committee (EC) were set bonus-related She is also the owner of our Environmental onclimate change in the immediate objectives in support of our net zero Policy, which details our commitment to andlong term, to enable the Group to initiative including supporting the addressing environmental impacts related deliver against its climate change and development of business sector-specific toour products and activities including environmental commitments, and its netzero roadmaps. climate-related issues. The net zero working response to the potential impacts of The Company has robust processes in group and SHE team report to her and she climatechange on the Group’s future placeto identify, evaluate and manage monitors and receives regular reports on andcurrent operations. | | risksincluding those arising as a result | progress. During 2021 we incorporated | | --- | --- | --- | | The ESG Committee is comprised of | ofclimate-related issues (see page 112). | climate transition into our Group-level | | non-executive directors of the Company | Risk,including climate-related risk, is a | Environmental Policy and created a | | appointed by the Board (see ESG Committee | regular agenda item at Board meetings and | governance, reporting and planning | | report page 134) and met three times | the Board reviews risk as part of its annual | roadmap to achieve net zero. During 2022, | | during 2021. The ESG Committee invites | review process. This, together with regular | this roadmap is being embedded across | | theChairman, Chief Executive and a | reports from the ESG Committee, provides | theGroup to help further support a focus | | number of other senior executives to attend | the Board with an appreciation of the key | on climate-related issues indecision making | | its meetings todiscuss and monitor progress | risks (and potential opportunities) as a result | across the business. Wewill also establish | | on the ESGissues including objectives and | of climate-related issues and oversight as | aSustainability Council, reporting to | | targets.Progress of the Company’s net | tohow those risks are being managed. | theGroup ESG, Culture and Business | | zeroprogramme is a standing agenda item | | Transformation Director, to support the | Environmental performance including (see page 43 and ESG Committee report). Company’s strategy,recommending to climate-related risks and opportunities The ESG Committee reports in writing to theEC areas ofsustainability to be given aremonitored via the Risk Management the Board about Company progress on priority and focus for the forthcoming year Framework which includes our Operational ESGon a quarterly basis. The ESG Committee and supporting Line and Functional leaders Assurance Statement, Lifecycle Management supports the Board in overseeing the inthe implementation of the Company’s Performance Review, Integrated Business progress of the executive in ensuring that sustainability programme. Plan, Quarterly Business Review and the Company takes an integrated, strategic ChiefExecutive Business Review processes We have also established a cross-functional, approach to addressing climate transition (see page 106). Our Operational Framework net zero working group made up of risks and opportunities. | | provides a robust governance structure, | functional representatives, business leads | | --- | --- | --- | | During 2021, the ESG Committee’s terms | policies and processes that manage | and environmental specialists. This group | | ofreference were revised to include climate | climate-related risks and opportunities | reports into the Group ESG, Culture and | | transition to reflect our focus on moving | across the Group. Risk is reviewed by | Business Transformation Director and | | towards net zero. During 2021, the Board | boththe EC, Audit Committee and the | coordinates the progression of our net | | received a briefing from an external expert | ESGCommittee. | zeroambitions forthe Group. | on carbon and climate-related issues and Our EC receives regular updates and As required by our Environmental Policy we our intention is that such sessions will be briefings on our net zero agenda. During have an environmental management system repeated going forward in order to ensure 2021, to reflect our commitment to (EMS) in place for all of our businesses. the Board remains fully informed about sustainability and climate change, the EC Short- and long-term environmental risks, these issues. | | approved changes to the Group strategic | including those relating to climate, such | | --- | --- | --- | | Another key role of the ESG Committee is | framework (see page 14) and operational | asthose outlined below are built into the | | to approve ESG-related objectives and targets | governance system. The purpose of these | businesses’ EMS. Part of the EMS process | | which form part of the executive directors’ | changes is to embed climate change into | isto define issues and set appropriate | | incentives – see page 152. In 2021, delivery | our Group strategy such that it becomes | targets for the reduction of environmental | | ofthe next phase of the net zero plan was | fundamental to how we do business. | and climate change impacts and risks. | included within the non-financial element ofthe executive directors’ objectives. 42 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### Climate and environmental Our direct environmental risks include: We understand that we need to change our operating model to transition to a net zero ### riskmanagement – breaches of environmental requirements organisation. During 2021, we reviewed our resulting in fines and/or the termination Our approach to identifying and assessing governance model to identify changes to of permits; environmental risks is embedded within our key policies and processes to embed our net approach to risk management (see page – transition to a low carbon economy; zero targets/climate risks and opportunities 112). Material climate-related operational – physical risk related to extreme within the business. We have scoped the physical risk, focused on extreme weather weatherevents; changes required within our governance events, alongside risks associated with the – advancing technology and innovation model and we are going to integrate net delivery of the net zero project by 2030 including attracting talent; zero considerations into our core policies andrisks identified in the EMS are already and processes. We have also reviewed the – changes in regulatory requirements; addressed in our business risk registers. capability we need to have in place to During 2021, businesses have started to – social and political change, differing deliver the net zero transformation incorporate wider climate risk within risk legislation and policy in our various programme including the skills to develop registers, including probability, speed and markets; and low carbon products. Work continues on mitigation impact. This activity will progress – risks associated with climate-related identifying key performance metrics. and be supported by the development and physical and transition risks (see ongoing management of sector net zero The Group-level net zero roadmap focuses page112). roadmaps and physical risk climate scenarios on Scope 1 and 2 emissions and defines Indirect environmental risk includes the for Tier 1 critical suppliers during 2022. how we will reduce our emissions in the impact of use of products by customers Climate change and environment is a next decade and beyond. Emissions andsupply chain risk. principal risk for the Group (see page 112). reductions are focused on reducing our Environmental risks may present as financial energy demands and operational emissions. ### Our ambition to achieve net zero or non-financial risks depending on the This will be delivered through managing To play our role in solving the challenge of extent to which their impacts can be ourinfrastructure, including investment in climate change, we launched our ambition quantified, and how they have been our facilities and buildings, energy efficiency for net zero during 2021 setting ourselves classified. improvements including fuel switching, the target of: on-site energy installations and purchase The Group operates in a highly regulated – achieving net zero greenhouse gas ofgreen energy. We have also started environment across many jurisdictions and emissions across our operations (Scope ourjourney to understand the impacts of issubject to regulations relating to 1and 2) by 2030. We aim to do this by our value chain, including understanding environmental factors including, but not reducing our emissions as a minimum in-life emissions of products and customer limited to, climate change, therefore inline with the 1.5°C pathway; and requirements for low carbon products and consideration of current and emerging supply chain emissions. – working towards a net zero value chain regulation within our environmental by 2050. management system is key to mitigating We recognise the need for a resilient risk. Identified regulatory risks include energysupply, and in line with our net We also strengthened our net zero pathway energy-related taxes and the increased costs zeroroadmap for the UK we will focus by signing up to the UN Race to Zero via of compliance with energy-related schemes. onmaximising energy efficiency, reducing theBusiness Ambition for 1.5°C campaigns. emissions where feasible and focusing on Our UK business intends to submit net zero Understanding how the business may be natural renewable power. We will also milestones for the Science Based Targets impacted by relevant environmental factors consider opportunities to enter into initiative during 2022. We will look to is also a key component of mitigating long-term power purchase agreements. extend this to other parts of the Group as emerging, medium- and longer-term risk. Ourtransition to net zero will be conducted we mature the development of our net zero Water scarcity is an example of an in line with our ethical standards, Code of roadmap and our related internal processes. environmental factor that has the potential Conduct and Supplier Principles – Guidance to impact our operations, for example, if ### Our net zero programme for Responsible Business, to ensure we play asite extracts water for process use. During 2021, we progressed our net zero our part in a just transition. programme by developing a net zero The sectors are now working to progress roadmap for the Group and scoping the roadmaps which willsupport the Group’s change management, governance, planning overall net zero ambition, outlining short-, requirements and assessed the level of medium- and long-term activities, including investment which we will need to transition an understanding of the level of investment toa net zero organisation. This overarching required. Sectors will complete this activity roadmap outlines a transformation in 2022. programme and supporting activities tocoordinate delivery of net zero across theGroup. ### Our net zero programme | Phase | | Phase | | Phase | | Phase | | | --- | --- | --- | --- | --- | --- | --- | --- | | | Define net zero | | Develop net zero | | Develop net zero | | Implement | | 1 | target | 2 | roadmap | 3 | operating model | 4 | change | BAE Systems plc Annual Report 2021 43 Strategic report Sustainability – Environmental, Social and Governance ## Climate change and the environment continued ### Collaborating with our customers We will focus on innovation and technology Responsible consumption development to progress products ### and suppliers Understanding and managing the compatible with zero emissions by We have set an ambition for a net zero environmental impacts of our business advancing our capabilities and solutions future that will drive efficiency, innovation supports our long-term strategy of reducing toimprove the sustainability of our products and collaboration across our value chain. the impact of our activities, supply chain with better performance. We will continue We recognise that our value chain emissions and products on the environment and to build on our portfolio of low carbon are many times those of our Scope 1 and 2 ensures responsible consumption of products and services inpartnership with emissions and it is critical that we partner resources. Consumption of resources and customers, whilst investing in self-funded and collaborate with our customers and materials can be different year-on-year, R&D into low and zero carbon solutions. suppliers to reduce emissions by 2050. dueto the differences in geography and Our current programmes include: stage of manufacture of platforms and Our customers are setting targets and electrification technologies including electric programmes. We are taking a business-led looking for low carbon, sustainable drive propulsion systems; full electric drives; approach to setting reduction targets products. We need to continue to work andhydrogen fuel cell systems for ground, anddriving improvement programmes with customers to understand their future air, and maritime applications, as well as andactivities to support responsible requirements to help inform and shape synthetic training. consumption. Businesses set objectives product innovation and development, Our major suppliers include multi-nationals toimprove the performance of their forexample, transitioning products to in the sector driving their own ESG strategies. operations such as reducing energy used lowor zero carbon fuels. We expect and encourage all our suppliers and the generation of waste, emissions and We are reviewing our current products tomeasure, manage and wherever other discharges, such as effluents. Some tounderstand in-life emissions so that we practicable reduce their greenhouse gas ofour businesses also set targets to reduce can transfer this knowledge to drive change emissions. We intend to work with our water consumption. and innovate. This will also help us over the suppliers to understand where they are short term to maintain existing products by ontheir own net zero journey, while embedding emission considerations at key undertaking projects relating to sustainable parts of the design stage and identifying procurement, for example green energy new disposal methods. andfacilities management and to support development of low emission products, forexample, electric vehicles. To support supplier understanding of ourESG expectations, including climate transition, we will be updating our Supplier Principles – Guidance for Responsible Business to expand our expectations onsuppliers in relation to sustainability (seepage 67). Climate change and the environment – US Department of Defense pledged to help the nation achieve net zero emissions by 2050. ## Our two major – US Administration has committed to a 50% reduction in national carbon emissions by 2030. ## customers are setting – US federal R&D budget set to include a considerable portion tosustainable technologies. ## targets and looking – Defence and commercial opportunities are emerging – integrated HED on Bradley alreadybeing trialled. ## fora growing number – UK Ministry of Defence pledged tohelp the nation achieve net zero emissions by 2050. ## of sustainable products. – RAF bases net zero by 2040. – Defence and commercial opportunities will arise from existing and developing technologies. 44 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | Electricity consumption | Waste | Water | | --- | --- | --- | | During 2020 and 2021 we have implemented | Activities to reduce waste are in place | Operationally, our environmental | | energy efficiency measures at a number | atbusiness level to address the specific | management system helps manage and | | ofsites across multiple business units and | production and non-production waste | minimise the water we use across our | | geographies. Examples of measures taken | streams of programmes and facilities. | facilities and manufacturing processes | | at different sites include installing solar | Business activities include reducing the | andwe protect and support the water | 1 panels, LED lighting replacements, ESOS amount of waste going to landfill via ecosystems which our facilities and 2 | and ISO | 15001 surveys, metering and | | recycling, treatment and incineration | communities depend on. Businesses set | | --- | --- | --- | --- | --- | | efficiency improvements in production | | | andadapting manufacturing techniques, | initiatives and targets to reduce water | | processes, improvements in steam | | | forexample, 3D printing (additive | consumption annually as appropriate. | | distribution and improvement to HVAC | | | manufacturing) utilises more than95% | Initiatives are specific to how businesses | | controls; and in the US, a partnership with | | | ofthe material used, minimising waste. | consume water operationally and | | the US Environmental Protection Agency’s | | | | incorporate stages of manufacture, for | | | | ® | Examples of initiatives to reduce waste | | | ENERGY STAR | | programme, which gives | | example, flooding of dry docks. At multiple | include removing single use plastics and usaccess to resources, tools and sites, leak detection and repair programmes diverting waste cured carbon fibre from benchmarking across our industry peers. are ongoing with further investments landfill. We also announced the extension Furthermore, during 2021 we purchased planned for 2022. We continue to evaluate of our partnership with Keep Scotland 282,519MWh (2020 173,502MWh) of climate-related scenarios across our global Beautiful, investing £100,000 to roll out renewable energy attributes under the portfolio of sites to monitor for flooding thethird phase of the campaign to expand Renewable Energy Guarantees of Origin and drought, to ensure we manage the education and outreach programmes to scheme for 26 sites inthe UK. riskto our people and operations. tackle marine litter. During COP26 we | All businesses are developing plans for | showcased our ‘Go With The Flow’ project | Mains water consumption has increased | | --- | --- | --- | | increasing renewable energy generation | which encouraged engineers to take part | by11% compared to 2020, mainly due | | inline with our net zero roadmaps. | ina challenge to design and build a river | toan increase in water consumption at | | | cleaning vessel. We also took part in | oneof our US sites. Abstracted water | | | UKRecycling Week which encouraged | volumes have increased compared to | | | employees to increase recycling both | 2020consumption due to three-yearly | | | athome and in the workplace. In terms | fluctuations in production/operational | | | ofhazardous waste there was a significant | activities at one of our UK locations. | | | reduction largely driven by a decrease in | Without these variations abstracted water | | | waste produced in our US business. | consumption remains in line with 2020. | Single locations can have a significant effect on consumption and wecontinue to apply targets to measure, monitor, report and reduce consumption. 1. Energy Savings Opportunity Scheme. 2. International Organization for Standardization. ### 2021 key environment data 2,3 | Water consumption | | | | | Waste production | | | Electricity consumption | | | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | 2021 | | 2020 | | 2021 | 2020 | | 2021 | | | 2020 | | | | cubic metres | | cubic metres | | | tonnes | tonnes | | kWh | | | kWh | | | Mains 2,270,390 2,039,777 | | | | | Non-hazardous 41,747 39, 211 | | | Grid 754,143,257 752,188,305 | | | | | | | | | | | | | | | | | 4 | | | 5 | | Abstracted 14,186,391 3,584,015 | | | | | Hazardous 8,690 15,922 | | | Renewable 2,486,109 | | | 2,304,663 | | | | Total 16,456,781 5,623,792 | | | | | Total 50,437 55,133 | | | Total 756,629,366 754,492,968 | | | | | | 1 Recycled 951,847 1,082,603 Recycled 42,103 44,354 1. Includes non-hazardous, hazardous and construction waste recycling. 2. Includes only those facilities that record theirelectricity consumption via the Group’s environmental database. 3. Ramboll US Consulting, Inc. has provided independent third-party verification of BAESystems’ 2021 greenhouse gas (GHG) emissions, in order to provide limited assurance that based on the verification process and procedures conducted there is no evidence thatthe Company’s reporting is not complete, notaccurate, not consistent, not transparent andfree of material discrepancies. BAE Systems’ management is responsible for preparing the GHGinventory and for the collection and presentation of information within it. Ramboll’s responsibility is to express conclusions on the agreed verification work and to determine based on the verification process and procedures conducted that there is no evidence that the workhas not been prepared in accordance with the outlined methodology statement on page 46. The reliability of the reported information and data is subject to inherent uncertainties given the available methods for determining, calculating or estimating the GHG emissions. It is important to understand our conclusions in this context. 4. Includes only directly-produced renewableelectricity. 5. Restated to include only directly-produced renewable electricity. BAE Systems plc Annual Report 2021 45 Strategic report Sustainability – Environmental, Social and Governance ## Climate change and the environment continued 1 ### Greenhouse gas emissions data 1. Ramboll US Consulting, Inc. has provided 2 Absolute energy consumption independent third-party verification of 2021 2020 BAESystems’ 2021 greenhouse gas (GHG) | | | | Global | UK | Global | UK | emissions, in order to provide limited assurance | | --- | --- | --- | --- | --- | --- | --- | --- | | | | | kWh | kWh | kWh | kWh | that based on the verification process and | | Energy consumption | | | | | | | procedures conducted there is no evidence | | | 2 | | | | | | thatthe Company’s reporting is not complete, | | Scope 1 and 2 | | 1,624,601,505 725,396,538 1,700,834,942 669,133,482 | | | | | | not accurate, not consistent, not transparent andfree of material discrepancies. BAE Systems’ | Greenhouse gas emissions data | | | | | | | | | | management is responsible for preparing the | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | 2021 2020 | | | | | | | GHG inventory and for the collection and | | | | Global | | | UK | Global | | | UK | presentation of information within it. Ramboll’s | | | | tonnes | | tonnes | | tonnes | | tonnes | | responsibility is to express conclusions on the | | Scope definition | | CO | 2 e | CO | 2 e | CO | 2 e | CO | 2 e | agreed verification work and to determine based | | 1 Emissions from activities which | | | | | | | | | | on the verification process and procedures | | | 2 | | | | | | | | | conducted that there is no evidence that the | | BAESystemsowns orcontrols (Scope 1) | | 142,241 76,133 151,190 69,948 | | | | | | | | | workhas not been prepared in accordance with 2 Emissions from the electricity and steam the outlined methodology statement below. purchased for BAESystems’ use(Scope 2 2 Thereliability of the reported information and – location-based) 268,735 71,602 336,207 73,221 data is subject to inherent uncertainties given 2 | Total gross Scope 1 and 2 emissions | | 410,976 147,735 487,397 143,169 | theavailable methods for determining, calculating | | --- | --- | --- | --- | | 3 Emissions from employee business travel | | | or estimating the GHG emissions. It is important | | | 3 | | to understand our conclusions in this context. | | (Scope 3) | | 24,094 4,145 54,769 11,9 41 | | 2. Relevant reporting period 1 November 2020 to31 October 2021. 4 Greenhouse gas emissions per employee 3. Relevant reporting period 1 January 2021 2021 2020 to31 December 2021. | Global | | | UK | Global | | | UK | 4. Including subsidiaries. | | --- | --- | --- | --- | --- | --- | --- | --- | --- | | tonnes | | tonnes | | tonnes | | tonnes | | | | CO | 2 e | CO | 2 e | CO | 2 e | CO | 2 e | | Per each full-time equivalent employee (Scope1 and 2) 5 4 5 4 Methodology | The greenhouse gas emissions data is | The principal record of the Group’s worldwide | The Scope 2 Greenhouse Gas Emissions | | | --- | --- | --- | --- | | reportedinline with the Greenhouse Gas | facilities is its legal department’s Global | associated with the Greenhouse Gas Protocol | | | Protocol Corporate Accounting and Reporting | PropertyDatabase. | ‘Market-Based’ Method have been calculated | | | Standard ‘Operational Control’ method. Our | | as232,856 tCO | 2 e. In line with the Greenhouse | Greenhouse gas emissions are primarily reporting boundary for Streamlined Energy Gas Protocol Guidance, this figure has been calculated fromenergy consumption records andCarbon Reporting (SECR) is the same as calculated using residual-mix emission factors reported viathe Group’s global environmental ourreporting boundary for the purposes of our where available for our UK, US and Swedish database.Where actual usage data is not financial statements. Emission factors for fuels operations. In our other significant operating available for facilities and residences within and UK electricity are published at www.gov.uk/ regions, residual-mix emission factors are either theGlobal Property Database, an estimated government/collections/government-conversion- unavailable or the resulting absolute emissions consumption is used based on the type of factors-for-company-reporting. Emission factors atGroup level are within the margin oferror building or previous consumption data. for US electricity are published at www.epa.gov/ andtherefore country-specific emissions factors energy/emissions-generation-resource- Greenhouse gas emissions related to business have been used in line with the Greenhouse integrated-database-egrid. Electricity emission travel include air travel data for the majority GasProtocol Guidance. If sites consume grid factors for Sweden, Saudi Arabia, Australia and ofthe global business, rail data for business electricity backed by REGOs, this has been taken Rest of World are published at www.iea.org/ units operating in the UK and US, and vehicle into consideration within the calculations. data-and-statistics/data-product/emissions- (including hire car, company car and personal car) The GHG emissions data generated in line factors-2021. data for business units operating in the UK, US withthis methodology is used for preparing and Australia. These data sets are taken from For the 2021 reporting cycle, the 2021 UK theSECR report. suppliers’ procurement records. government emissions factors published by Scope 1 emissions from refrigerant gases have theDepartment for Business, Energy and Emissions from pension scheme properties been excluded from the SECR disclosure. These Industrial Strategy have been used. Themost notoccupied by the Group arenot included. emissions have historically been excluded from up-to-date Emissions and Generation Resource Where a business or facility isacquired during a the GHG inventory on the basis of technical Integrated Database factors published by the reporting year, it will be included in our reporting feasibility. An annual strategic and risk review of USEnvironmental Protection Agency (EPA) are in the next full reportingyear after thechange. refrigerant gas used in 2021 did not indicate that used for US electricity. Forthe2021 reporting Ifa business or facility has closed during the any change in this exclusion was required. | cycle, the most recentUS factors are from the | reporting year, the site will be excluded from | | --- | --- | | year2019. The US EPA is due to release the | theboundary in the next full reporting year | | updated 2020 figures in the first quarter of | afterthe change. Emissions from subsidiaries | | 2022, however they have not been released | areincluded in the data set. | intime to be used for the current calculations. 46 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | Biodiversity | Greenhouse gas emissions | 2022 priorities | | --- | --- | --- | | We are developing our understanding | Our aim is to continually improve energy | During 2022, we aim to: | | ofhow our facilities and operations | efficiency and the decarbonising of our | | – create sector roadmaps to support impactoursurrounding natural habitat. energy supply to reduce greenhouse gas ournet zero ambition by Q2; and Operationally, significant aspects of emissions. Once implemented our net zero – develop our net zero milestones for biodiversity are addressed via our programme will provide the framework to theScience Based Targets initiative. environmental management system accelerate reductions. whichincludes protecting natural habitats, During 2020, we removed two facilities conserving protected species and the from our organisational reporting boundary, management of invasive species in and as we do not have operational control of around our sites. Our businesses have these facilities. Another business entity established a number of local initiatives includes the emissions from these facilities tosupport their local ecosystems from within their environmental reporting installing bat roosts, removing invasive obligations. As a result of these changes, species, planting wildflowers to attract energy and emissions for the Group have beesand cleaning up water courses. reduced and our top ten site listing has We also undertake a full lifecycle been revised. environmental assessment for our ships The majority of our operational andsubmarines, to identify any potential greenhousegas emissions come from impact on the marine environment, thegas and electricity we use across andtominimise these as far as possible. ourfacilities. Our focus is on making our Ourseatrials activities undergo a full facilities more efficient and generating environmental impact assessment which electricity from lower-emission sources. looks at what needs to happen, where | thetrials will take place, and the time | Our top ten largest sites accounted for 54% | | --- | --- | | ofyear to minimise impact on marine | of our total energy consumption. By these | | floraand fauna and habitats. | sites setting energy reduction targets, they | have the biggest influence in reducing our energy use and, in turn, our direct and indirect greenhouse gas emissions. The majority of these sites operate environmental management systems 1 certified to ISO 14001, with an aim toreduce their energy consumption and inturn greenhouse gas emissions. Other sites certified to 14001 will set appropriate objectives and targets to improve environmental performance. During the financial year, Group-wide greenhouse gas emissions have reduced by20%. While the implementation of energy efficiency projects has contributed to this decrease, the most significant factor in the Group-wide reduction is the reduction in Scope 2 location-based emissions which is mainly due to the decarbonisation of electricity grids and therefore the reduction in carbon conversion factors. The reduction in Scope 1 emissions is due to the slight reduction in all Scope 1 fuels except heavy fuel oil. Reported Scope 3 emissions have reduced as a result of a decrease in business travel due to COVID-19 and a reduction in long-haul flights. 1. International Organization for Standardization. BAE Systems plc Annual Report 2021 47 Strategic report Sustainability – Environmental, Social and Governance ## Technology ## We are committed to using our world-class Technology ## engineering capabilities and cutting-edge ## technologies to reduce the environmental ## Reducing the ## impactof our activities. ## environmental impact We know that climate change will continue to affect temperatures and create extreme ## weather conditions, and it is important that of our activities we understand these challenges so that the systems we design are fit for operation in future environments. Part of this is about optimising our products – maintaining operational performance whilst reducing the emissions. Energy efficiencies on We continue to work with our customers PortsmouthNavalBase tohelp them with product innovations that Since 2004, working with the Royal support their strong positions on climate Navy, BAE Systems has reduced estate change targets as well as looking at how CO 2 emissions at Portsmouth Naval Base wecan reduce emissions from our own by more than 40%. This is despite energy operations and products. demand almost doubling recently due to the needs of the aircraft carriers at Please also see ‘Our investment in the base. technology’ section on pages 34 and 35 which gives more detail on the importance This has been achieved with activities of technology and innovation to our such as the installation of approximately business and our customers. 500kW of photo-voltaic roofing and 13.5MW combined heat and power generation, alongside a number of targeted energy reduction projects andinitiatives. The reductions in energy usage at Portsmouth Naval Base are seen as good practice across both our own company and with our customers, as wehave hosted several groups of UK Ministry of Defence visitors, including from outside the Royal Navy, to share our experiences. We have been working to improve the way data is used to control and monitor estate operations and inform decision- making. We overlaid three-dimensional geospatial models of the dockyard with various sources of estate and asset information to provide powerful visualisation tools, easy access to information and analytics dashboards. Commercial off-the-shelf sensors have been integrated to tag and monitor on-site assets like cranes, buses and pumps. This data provides a single pointof truth from which we can track electrical performance, maintenance requirements and power usage across asite and so allows us to better locate charging stations and optimise operations for maximum efficiency. 48 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance Energy efficiency in the Future CombatAir System > How do you power a future combat aircraft, when energy demands of Advancing our proven electric drive thesystems aboard are constantly technology to the maritime domain increasing, but the need for efficiency and sustainability has become a With 25 years of proven experience with globalpriority? electric drive technology across global transit operations, our sustainable This is the challenge facing Team systems are equipping and powering a Tempest, whose members have a range of marine vessels, from research once-in-a-generation opportunity to and passenger vessels, to superyachts design a future combat air capability and river tows. from the ground up, utilising not only > today’s technologies but those we In alignment with operators’ current expect to see decades from now. andfuture environmental goals, our eco-friendly systems include electric Electric heavy-lift uncrewed Some of the technologies used to airsystem hybrid, battery electric, and now fuel power Typhoon today, such as the use cellelectric propulsion, with our systems BAE Systems and Malloy Aeronautics of bleed-off air from the engine, may powering SWITCH Maritime’s Sea areexploring the development of an be insufficient to supply all of the Change, the first hydrogen fuel cell all-electric ‘heavy-lift’ uncrewed air future needs of Tempest. powered passenger vessel in the US. system as a potential new solution to The power requirement necessitates deliver cost-effective, sustainable rapid We have dozens of zero emission fuel new thinking about power generation response capability to military, security cellelectric buses in operation and our and energy management, from energy and civilian customers. systems also power Enhydra, the largest harvesting to on-board storage and hybrid electric passenger ferry inthe The all-electric powered concept near-instantaneous availability. | | US.Using this expertise, we continue | vehiclewillbe designed with a top | | --- | --- | --- | | Working with Rolls-Royce on propulsion | tofacilitate the transition to sustainable | speedof 140kilometres per hour | | and energy management, we are | energy by making zero carbon | andtheability tocarry a class-leading | | exploring embedded electrical | technology accessible, leading the way | 300 kilogram payload. | | generation, taking current directly | with green propulsion for fleet operators | | The cutting-edge technology could be fromthe main engine shaft. Historically, including the University of Vermont’s usedfor a range of applications such as gearboxes would have been used to research vessel. performing ship-to-ship and ship-to- dothis, but these are less efficient and With funding from Innovate UK, we shore movements to support military and for Tempest every watt counts. arealsoworking with both Uber Boat security operations and logistics. Emitting Alongside our partners, we are byThames Clippers and Cory Riverside zero carbon, the uncrewed system could investigating systems that can be Energy to develop a zero emissions help revolutionise military operations maintained in a ready or standby state strategy with solutions based on our where there is a requirement to carry and then powered to hundreds of next-generation electric drive system to heavy loads,helping to keep military kilowatts instantly, providing a ‘power ensure air and waterways on the River personnel out of harm’s way in when you need it’ capability. Thames are preserved for the future. dangerous situations or disaster zones, whilst reducing the environmental impactof our armed forces. BAE Systems plc Annual Report 2021 49 Strategic report Sustainability – Environmental, Social and Governance ## Social ## We are focused on valuing and developing our people and making ## apositive social and economic contribution to our communities. 1 ### Safety and wellbeing We use Recordable Accident Rate as To support employees working remotely akeyperformance indicator to assess orin a hybrid model, our businesses have The safety and wellbeing of our people is workplace safety improvements and implemented a number of resources paramount. The global COVID-19 pandemic thisisused to determine an element andprogrammes, including ‘Work Safe continued to drive many of our safety and ofexecutive bonus. atHome’, ‘Embracing Hybrid Working’ wellbeing initiatives in 2021. While we have andWorking Adjustment Passports. | made progress with some of our long-term | During 2021, we did not meet the | | | --- | --- | --- | | metrics improving, especially around major | overallRecordable Accident Rate reduction | We continue to promote mental health | | injuries rates and a reduction in severity | target of 10% against the 2020 baseline. | awareness programmes across the | | levels, our overall recordable injury rate | Handling, lifting and carrying, and slips, | organisation and have worked diligently | | increased slightly over 2020. | trips and falls continue tobe responsible | thisyear to increase our communications | | | formore than 50% ofrecordable injuries. | and engagement channels along with | The first quarter of this year was introducing training foremployees to challengingat a number of our major sites Our major injury rate decreased by 11%. raiseawareness of the importance of around the world, with ongoing pandemic The health and safety of our employees mental wellbeing. We have also leveraged related challenges, including significant continues to be our highest priority. technology to launch a digital platform changes to working practices, taking a Weremain focused on safety across toempower employees to take a proactive significant amount of bandwidth from ourbusiness, and are targeting our most and preventative approach to mental ourwell-established safe systems of challenged sites through a comprehensive healthand wellbeing. workand training programmes. We saw performance improvement plan. Businesses significant improvements in safety during 2022 priorities are conducting safety campaigns to deliver the remaining quarters. During 2022, we aim to: a sustained programme of critical safety Our safety programme themes across employee groups, – progress our safety performance Our manufacturing activities present a implementing virtual reality safety improvement plans; range of risks. These include slips, trips and training,and implementing new and – implement a new safety, health and falls, work in confined spaces, machinery improved assurance programmes to environmental data platform to enhance operation and working at height, among reducerisk related to safety, health, analytics capabilities and provide others. We monitor and aim to eliminate, andenvironmental impacts. enhanced safety, health and mitigate and manage all risks. Our approach environmental process support; and In 2021, improvements in safety and to identifying and assessing safety risks is diversity were underpins to the non- – expand our functional assurance embedded within our approach to risk financial element of the executive bonus. andaudit programme. management (see page 104). The requirements for diversity improvements We strive for world-class safety conditions were met but those for safety improvements and performance. Our management focus were not achieved. While progress was made with some of the long-term metrics Recordable Accident Rate on this objective is necessarily strong and 2 improving, especially around major injuries (per 100,000 employees) BONUS KPI tailored towards achieving a world-class safety standard that is embedded in rates and a reduction in severity levels, 2021 496 ourSafety Policy. We have a number of theoverall recordable injury rate increased slightly over 2020. The analysis of this 4852020 programmes focused on the health, safety and wellbeing of our employees. We also showed a significant increase in hours ensure employees exposed to identified worked in several of our larger sites 2 | | | Major injuries recorded | BONUS | | --- | --- | --- | --- | | orknown hazards have the protective | throughout 2021 while the staff headcount | | | | equipment they need and we continually | remained consistent. Given the importance | | | 2021 33 monitor our operations to ensure the of safety to our Company, it was agreed 372020 working environment is as safe as possible. thatthere should be no exception and areduction be applied to the non-financial Safety objectives element of the bonus. BONUS To demonstrate our commitment to safety The award of the executive directors’ bonuses is Employee wellbeing | and drive performance the Board continued | | dependent upon achievement of improvements in | | --- | --- | --- | | to prioritise safety through the inclusion of | The importance of our employees’ | both safety and diversity (see page 157). | | asafety objective in executive remuneration. | wellbeing has been enhanced in COVID-19 | | times as we have all had challenges Safety is set as a qualifier to the overall balancing work and personal commitments. non-financial element of the executive Our wellbeing programmes support 1. We define recordable injuries in line with the bonus (see page 157). USOccupational Health and Safety Administration employees in both their work and personal responsibilities. Our Employee Assistance reporting standard. Line managers are incentivised to achieve 2. BAE Systems Internal Audit has reviewed and the desired safety culture and additional Programme provides assistance to employees confirmed effective systems, processes and controls personal objectives are identified across a range of issues, including mental are in place tocollate and validate this data. throughthe Performance Development and financial wellbeing. Assistance comes Review process. inthe form of ‘in the moment’ telephone support and counselling where required. 50 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | People | Our People strategy | Our progress in 2021 | | --- | --- | --- | | Inspiring, leading and empowering | Our People strategy is delivered through | Talent and critical skills | | high-performing teams | fivekey pillars: robust succession planning; | | Maintaining a diverse pipeline of talent targeted recruitment; focused talent Our people are critical to building a andcritical skills is key to fulfilling our management; a culture of inclusivity, sustainable business for the future, futurecustomer requirements. In 2021, learning and development; and an including ensuring we have the right skills wesustained our focus on delivering the incentivestructure aligned to delivery. tomeet our customers’ challenges and skills for tomorrow, harnessing them Thisisunderpinned by our People Policy, deliver on our Company purpose. acrossthe business to develop a breadth guidance and support tools. and depth of knowledge. Recognising the world around us has Our People Policy lays the foundations, changed at pace over the past two years, In the UK, ouraward-winning early career setting out our people management itis important we evolve our employee and skills programmes have supported around expectations, including in relation to diversity experience to attract, retain and develop 3,500 young people in training in 2021: and inclusion, training and development, the very best talent. This reflects a culture – 851 new apprentices started in 2021 reward and employee engagement. that is inclusive, supportive and allows and939 are forecast for 2022; everyone to be their best at work and This commitment is embedded through – 522 graduates and undergraduates started feelvalued for their contribution. ourgovernance structure. The Group in 2021 and 751 are forecast for 2022; and Human Resources (HR) Director reports To achieve this we are focused on – around 120 young people in the UK directly to the Chief Executive andchairs maintaining our position as a leading government’s Movement to Work aGlobal HR Council, ensuring alignment employer of choice, particularly in andKickstart programmes, and around between our strategy, policy and delivery. engineering, manufacturing, science and 100 are forecast for 2022. This has allowed the organisation to technology. This includes having the right delivera range of commitments in 2021, In Australia, 93 apprentices and 104 skills and capabilities that are essential to recognising our business is dependent graduates are in training (2020/2021 helping our customers to provide safety onour ability to recruit and retain a diverse cohorts), and in Saudi Arabia, 113 trainees, andsecurity. More broadly, our employees workforce with the talent and skills to students and graduates joined our early are actively involved in the local communities deliver excellence to our customers, years careers programmes during 2021. across our sites, delivering wider social and including engineers, designers, software economic contribution in the areas where More broadly, we are investing in the developers and project managers. We have they work. capability of our line manager population, identified this as a principal risk (see page equipping them with the right skills and Our ambition is to amplify our strengths 111) and we continue to take a range of tools to be inspirational leaders of the andadapt to deliver a more modern, fit actions to mitigate the risk. future. Around 800 UK managers have forpurpose organisation, with a stronger participated in our inaugural line manager emphasis on value, efficiency and agility. programme and we successfully piloted new programmes from supervisor to mid-level managers, delivered virtually but with a strong emphasis on engagement, including peer learning and coaching. We have also developed a stronger talent ### Trades unions/labour unions management framework that governs the Group’s high-potential talent programme, We seek to maintain constructive In the UK, participation and succession planning and career management relationships with trades unions in engagementis open and constructive process. This year we expanded this, Australia and the UK and labour from the Chief Executive to local business ensuring a pipeline of talent is created unionsin the US, providing a levels, governed through our Corporate across all levels of the organisation and foundationfor apositive and Trade Union Constitution. These strong provides the skills for the future. New Talent productiveworking environment. relationships enable us to work swiftly Dashboards are providing insights on Wehave structures in placeto work and effectively with employee succession plan risks, pipeline diversity and withtrades union representatives in representatives, both reactively and our high-potential talent, enabling decisions ourlocal markets, where it is proactively, and are most recently on priority actions required. | appropriateand legally acceptable. | evidenced through our approach to the | | | --- | --- | --- | | Ofour UK workforce, 69%are covered | COVID-19 pandemic in order to maintain | Our global Emerging Leaders and Advanced | | by collective bargaining agreements | productivity on our critical programmes. | Leaders programmes have been launched | | andapproximately 55% ofthe UK | | virtually, both in response to the pandemic | | workforce are trade union members. | | and in support of our inclusivity goals. By | | Inthe US approximately 10%of the | | shifting our learning portfolio online, we | | workforce is covered by acollective | | have been able to expand access to executive | | bargaining agreement. | | coaching, as well as our core programme. | We also launched a new UK digital learningplatform – the first phase in ourglobal implementation ambitions. Thisprovides on-demand access to more than 27,000 courses, including world-class LinkedIn learning opportunities, strategic and functional skill development and onlineacademies. BAE Systems plc Annual Report 2021 51 Strategic report Sustainability – Environmental, Social and Governance ## Social continued People ## Developing our people, ## with a specific focus on ## STEM skills, is vital to the ## longevity of our business Developing young people in STEM careers The availability of specialist skills in engineering and manufacturing is critical forour business. In 2021 we spent £72m onapprenticeships. As a founding member of the UK’s Movement to Work (MTW) programme, we are committed to delivering social mobility which provides quality work experience for disadvantaged young people. Working with The Prince’s Trust’s Get Into Engineering programme, weprovide around 100 work placements foryoung unemployed people each year. This programme had 32 positive outcomes in 2021, of which nine were roles in BAE Systems. We also support the UK government’s Kickstart Scheme, which provides six-month job opportunities for unemployed young people to gain work experience. In 2021, we had 28 Kickstart placements on our first cohort (80% of which translated into jobs with the Group) and we had a second cohort of 15 starting inNovember 2021. We also make significant investments in outreach activities to school children and university students. In 2021 and in the wake of the pandemic, our education activities were delivered virtually and together with the Smallpeice Trust, the Royal Air Force and Royal Navy we launched ‘Coding for Success’, an initiative for 600 schools that helps educators and students develop confidence with coding and robotics. 52 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | > | | > | | --- | --- | --- | | Developing digital and systems | Developing new skills to support | Partnering to launch advanced | | engineering skills in Australia | thedrive to net zero | manufacturing careers | | The Diploma of Digital Technologies, | BAE Systems is ensuring it is developing | The Electronic Systems Tech Power | | initiallydeveloped in partnership with | thenew skills required that will help drive | programme is improvinglives and | | Flinders University and TAFE SA for workers | progress towards net zero. In November | advancing careers through the power | | at risk of redundancy, evolved in 2021 to | 2021 we announced a new programme of | ofinnovation. Our business is proud | | support our employees seeking to upskill in | Masters-level sustainability apprenticeships | topartner with MY TURN, a non-profit | | areas relevant to the future of shipbuilding | to be delivered in partnership with Cranfield | organisation in New Hampshire helping | | – including cyber security, automation, | University to start in March 2022. Over the | under-represented youth launch careers | | innovation and Industry 4.0. | next two years, students will undertake a | in advanced manufacturing through | | | range of modules including sustainability | financial assistance, coaching and | This year, the programme expanded to principles, leading a sustainable business, support services. include supply chain partners and STEM performance management and reporting. schoolteachers with more than 90 students Since 2016, more than 40 MY TURN Inaddition to their academic study, the starting the diploma in 2021. All students participants have graduated from the apprentices will apply their academic are full-time workers, with lectures and Microelectronics Boot Camp at Nashua learning in the workplace as they play akey workshops taking place after hours. The Community College, a ten-week course role in delivering our roadmap to netzero. | programme has achieved 50% female | | that prepares students for entry-level | | --- | --- | --- | | participation and was nominated asa | Students completing the programme will | advanced manufacturing roles. On | | finalist for a national Australian Training | achieve a Sustainability Business Specialist | completing the programme, | | Award. The 2021 Australian Training Awards | Apprenticeship, including a Master’s degree | BAESystemsoffers job interviews to | | winners were announced on 18 November | in Sustainability and supporting progression | graduates, and 14 MY TURN participants | | 2021. While we were not a winner at | towards professional recognition with the | have since started their careers with | | theseawards, we did secure the Industry | Institute of Environmental Management | Electronic Systems. | | Collaboration Award at the 2021 South | andAssessment. | | Together, these powerful partnerships Australia Training Awards. | | The first ten apprentices to undertake | are making a difference for our business | | --- | --- | --- | | In 2021, BAE Systems Australia partnered | theprogramme are employees from | and our community, not only opening | | with Australian Industry Group, one of | acrossour UK businesses, including | doors to meaningful employment | | thenation’s leading business associations, | Scotland, the North West and South | opportunities, but also changing lives | | and anumber of employers to develop | EastofEngland, as well as one from | bydeveloping high calibre, motivated | | employment and course specifications | theKingdom of Saudi Arabia. We aim to | talent in our local communities. | | foran Australian-first degree apprenticeship | continue the commitment to sustainability | | | in systems engineering. In December, | apprenticeships and to explore at a later | | | Victoria University was selected to partner | date the possibility of a new sustainability | | | on this pilot programme. The programme | apprenticeship for new starters. | | will build from our UK experience and offersa more flexible approach to practical learning outcomes, and the ability to customise courses to suit employer needs. BAE Systems plc Annual Report 2021 53 Strategic report Sustainability – Environmental, Social and Governance ## Social continued People ## We are committed to providing an ## inclusive environment in which all ## ouremployees can developtheir ## skills and reachtheir full potential. 54 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | > | > | | --- | --- | | Supporting disabled colleagues | National Security Academy | | intheKingdom of Saudi Arabia | forcybertalent | | In Saudi Arabia we have striven tocreate | BAE Systems’ National Security Academy | | awork environment that caters for all | isa UK-based initiative through which | | typesof disability, empowering and | Applied Intelligence works with | | enabling employees to perform their | QALearning to develop individuals | | workto the fullest and without obstacles. | withspecialist software engineering skills | | The ABLE committee was created several | tobegin a career in the security sector | | years ago and holds awareness and | withBAE Systems. As individuals progress | | education events for all BAE Systems | through the Academy, they gain UK | | employees in theKingdom. In 2020, | Security clearance, allowing them to | | BAESystems was awarded a Gold | workon sensitive projects in support of | | Categorycertification from the Ministry | theUK government. The Academy offers | | ofHuman Resources and Social | anintegrated and hands-on four-month | | Development inrecognition ofour inclusive | training programme building interpersonal | | and supportive work environment for | skills and developing capabilities in | | employees with disabilities. The teamhas | Javascript, Java SE, Web Development | | also supported the global #Purplelightup | andAgile methodologies. | initiative lighting up Company buildings Applied Intelligence aims to fill 50% of the andturning social media accounts purple places with talented females who are starting insupport of theInternational Day of in their careers, have some experience or Persons withDisabilities. are returning to work. In the last cohort, 46% of places were filled by women. A decade of progress BAE Systems, Inc. published a reportentitled ‘A Decade of Progress’ to detail progress made over the past ten years toward increasing diversity, equity and inclusion (DEI) in the workplace and to outline a strategic Menopause support path forward to further advance As part of our ambition to create an inclusive workplace in which everyone feelsable to be ourculture of inclusion. We are themselves, on World Menopause Day in October 2021, we announced our commitment to committed to making our company being a menopause friendly employer. In addition topromoting its accreditation on amore equitable place for all www.baesystems.com and in recruiting forums, an online menopause hub was launched for employees, and we are taking employees with expert information from Henpicked – a specialist agency working with activesteps that are substantive menopause-friendly employers. New guidelines for employees and managers have also been andenduring to deliver on this developed which include offering working adjustments if required. Online training isavailable commitment at all levels of our for allemployees and Pause for Thought, an Employee Resource Group has been developed organisation through education for employees in the UK business. andexperience-based programmes. In publishing our first ever DEI Impact Report we have shared details about themakeup of our US workforce, what our ambitions are, and what weare doingto meet them. It was an important opportunity to share some of our progress and give employees and stakeholders a tool to help hold us accountable to meet our goals. BAE Systems plc Annual Report 2021 55 Strategic report Sustainability – Environmental, Social and Governance ## Social continued High-performing culture In the UK, we developed a new policy Leveraging technology framework and line management guidance, As we continue to build a high-performing Irrespective of job, role or location, technology equipping line leaders to support their culture that delivers our shared strategic remains a key enabler, empowering greater teams. Locally-led, experimental objectives, our Values and Behaviours access to information, benefits and career ‘pathfinders’ are helping to test and inform havebecome integral to this success. Since opportunities. We have continued to invest an enduring hybrid proposition including the Group launched its eight Behaviours in our employee appfor more than 40,000 new workplaces for hybrid and on-site in2019, these have been integrated into employees in the UK, Australia and Saudi workers. A range of technology support allour people processes, including Arabia, providing access to the latestnews, was also delivered, from hotdesk booking performance, talent, reward, recruitment guidance, tools and more. through to hybrid-friendly video- and learning. conferencing and collaboration tools. In the UK we launched a new online Across the enterprise, our Behaviours benefits platform, called FLEX. It provides For our on-site population, in discussion havebeen added in to the Performance employees with access and flexibility to withtrades union leaders, we are launching Development Reviews (PDRs) for all people proactively manage their own portfolio a review of the worksite experience, managers, alongside key Future Talent ofbenefits, including private medical working patterns and any broader flexibility Programmes. The feedback from PDRs insurance, health benefits and broader that can be offered in order to maintain allows employees to drive their own guidance (financial, health, wellbeing). parity across all employees. personal development, while the Group TheUS team consolidated several self- increases efforts to foster cross-business In the US, we launched a workshop series service systems, launching an expanded collaboration and agility. on leading hybrid teams. This featured the ServiceNow platform for employees to fundamentals of hybrid leadership, insights obtain IT, HR and Finance support. A number of cross-Group working groups on leading virtually with a people-first have been launched to align our approach, From a career perspective, a new internal approach, and sustaining successful hybrid share learning and collaborate across the mobility team was launched to enhance teams. In addition, the US team built a business. This includes UK workplace cross-company progression within the ‘Return to the Workplace’ eLearning climate, which is delivering 17 different Group. A recruitment transformation module focused on the top priorities for projects in 2021/22 focused on career programme is also underway for the leaders engaging with employees in the development, inclusive and hybrid working, UK,Australia and Saudi Arabia, including new hybrid environment. | flexible benefits and our sustainable future. | | acentralised recruitment hub that will | | --- | --- | --- | | A global Sustainability Steering Group is | Keeping our people connected, | support the recruitment of nearly | | setting the strategy and direction for our | informedand engaged has never been | 7,000recruits (permanent and fixed) | | environmental, social and governance | more important as employees in all of | eachyear and support our strategic | | priorities, while our Future of Work teams | ourmarkets continued to experience major | workforce planning. | | inthe UK and US are driving new ways | impacts on their personal circumstances | | Organisation efficiency ofworking. andways of working through the pandemic. and effectiveness We used a range of channels to make sure We have also strengthened our engagement In order to deliver great efficiency, our people had access to the information events, including a fully virtualconference effectiveness and collaboration, we are and support they needed throughout the for mid-level management in the UK, evolving our People organisation. We year, as well as keeping employees informed Australia and SaudiArabia. Sponsored by recognise that employee expectations about the performance, developments and our Executive Committee, it was attended continue to evolve and we must adapt prospects of the business. This included by approximately 900 employees, providing inorder to attract and retain the very engagement through our intranet, employee an opportunity to listen and contribute to besttalent. app, email, videos, podcasts, newsletters, our key strategic priorities, alongside leadership communications, virtual In the UK, Australia and Saudi Arabia, employee-led workshops that will inform discussions and briefings, and through weare evolving our People organisation our work on workplace climate and culture. ourline managers who played a key role tosupport our ambitions and strengthen These themes also featured in the 2021 inkeeping their teams connected and our capabilities: Graduate conference. engaged. We continue to focus on two-way – new Geographies function that will New ways of working communications, ensuring we have channels integrate our strategy, policies and In a year where adaptability has been through which employees can express their projects across markets; integral to our success, adopting an views, feedback and any concerns, helping – Centres of Expertise will provide the increased flexible and hybrid approach us understand employee sentiment on an tools,policies and governance to ensure hasbeen key. ongoing basis and respond appropriately. acommon employee experience; In response to the pandemic, we have – business-facing teams will be freed maintained flexible working across the uptofocus on business and people business. This includes a long-term hybrid performance; and working framework that balances the need – People Services will deliver our of individual business, site, team and transactional solutions and services. employee needs. We have five workstreams underway, led bya cross-company team dedicated to shaping our vision for 2022 and beyond. This aligns with our US team, which has alsorecently launched a review of its People Services, to ensure it is optimally structured to efficiently and effectively support our evolving business. 56 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance Diversity and inclusion These ambitions will be supported by Recognising gender diversity is just one arange of targets: areaof our focus. In 2021 we launched These ambitions will rely on a diversity amajor focus on self-identification, oftalent, and illustrate why diversity and – Globally: 50% of Executive Committee tosupport our aim to achieve broader inclusion remains a key business priority. members to be women by2030. diversityand inclusion in our workplace. In2021 we established clear ambitions – UK: 30% of the organisation’s workforce Toaccelerate this we launched a UK andmetrics, embedding these within to be women by 2030 at the latest. campaign for employees tocomplete ourprocess, practices, policies, systems – BAE Systems, Inc.: progress towards theircharacteristics and we established andtraining. greater gender and racial diversity at aplan of activity to improve our The Group is committed to giving open, alllevels of the organisation. representation within the business. fulland fair consideration to applications – Other countries: targeted ambitions Examples include: foremployment from disabled people forother countries in which we operate. – early career and education outreach andpeople with health conditions or worktoincreaserepresentation of We also need more women in senior impairments who meet the requirements femalesandethnic minorities; grades, including science, technology, for roles. We also ensure training engineering and maths (STEM) roles. – inclusive hiring guidelines to adapt opportunities and appropriate Inthepast three years our gender diversity ourlanguage, recruitment process accommodation are available to all. We for senior managers has increased from andexperience; firmly believe that the inclusion of all of our 17.4% to 22.4%, with gains seen in our people, enabling them to contribute to the – initiated and tested new talent Engineering, Manufacturing and Operations, best of their ability, is vital to our business. management programmes for emerging and Project Management functions. In 2021 Our commitment to disability inclusion and female leaders and ethnic minorities; we launched the Emerging Female Leaders accessibility in the workplace can also be – launched inclusive buddying and programme to enable the progression of recognised through our pledge to support leadership development programmes women at the mid-point in their careers. The Valuable 500 campaign. tosupport those joining or advancing However we are also looking at the through the business; and Globally, we have now set an ambition broaderpipeline of talent, and we have tobe recognised as the leading employer – initiated targeted support such focused our efforts on those starting their indefence and security for valuing diversity asmenopause awareness, support career. In 2021, 23% of our 2,000 UK and inclusion. We also want to be andtraining. apprentices were female and our overall representative of gender and ethnicity in female population and those working in thelocalities in which we operate. STEM roles also continued to grow. ### Gender diversity Gender pay gap We have published our fifth annual | | Male | | Female | | | | --- | --- | --- | --- | --- | --- | | | | 9 | | 5 | gender pay gap report in line with | | Board 64% 36% | | | | | UKregulations. For 2021, the average | gender pay gap for our UK workforce 256 74 was 8.7% (2020 9.1%) which is 7.4% Senior managers 1,2 78% 22% lower than the current UK national average of 16.1%. We rely on employing | | | 64,000 | | 18,000 | | | --- | --- | --- | --- | --- | --- | | | 3,4 | | | | large numbers of employees with | | Total employees | | | 78% 22% | | | STEMqualifications and we, like other companies, face challenges recruiting 3,4 Age diversity females with these qualifications because there are significantly fewer women A whostudy and work in these fields. E A 24 years and younger 7% Asaresult, a greater proportion of B 25–34 years 22% ourworkforce and our senior leadership C 35–49 years 31% population is male and this is a major B D 50–59 years 26% factor in our gender pay gap. We E 60 years and older 14% continue to work hard to improve our gender balance and remain steadfast in D our commitment to delivering the plans we have in place to increase the number of women in BAE Systems and support the progression of women into senior executive positions. C 1. Senior managers are defined as employees (excluding executive directors) who have responsibility forplanning, directing or controlling the activities of the Group or a strategically significant part oftheGroup and/or who are directors of subsidiary companies. 2. Executive Committee (excluding executive directors) and their direct reports. 3. Excluding share of equity accounted investments. 4. BAE Systems Internal Audit has reviewed and confirmed effective systems, processes and controls areinplace to collate and validate this data. BAE Systems plc Annual Report 2021 57 Strategic report Sustainability – Environmental, Social and Governance ## Social continued ### This has all been strengthened through our However some opportunities for improvement Supporting our communities Employee Resource Groups (ERGs), which were highlighted around the need for The work done by our people helps to are sponsored by our Executive Committee. greater parity for on-site workers, notably buildstronger nations and enables growth They provide visible leadership and direct inrelation to flexible working. Technology in economies and local communities – engagement with a range of groups, to enablement, health and wellbeing, and through employment and national and local ensure employees feel that their differences career progression remained a priority supply chains. We play a vital role in many are valued and represented. foremployees, in particular for millennials. of the communities where we operate, a | In the UK, this is supported by 15 different | Based on rising attrition metrics and | significant responsibility in which we take | | --- | --- | --- | | pledges and commitments to external | 2021industry data, the US team also | great pride. We aim to build and nurture | | charters, including veterans, LGBTQ+, | conducted employee focus groups on | mutually beneficial relationships between | | mental health, disability, social mobility and | retention in an effort to develop strategies | our business, our people and local | | inclusion. Also in the UK, we have five core | to retain our talent in the dynamic job | stakeholders to benefit the local communities. | | ERGs: Enabled (disability); GEN (gender); | market. The focus groups gathered | Engaging with our communities as well | | Mindset (wellbeing); VetNet (veterans); and | employee sentiment around returning | assupporting and caring for them is an | | Outlink UK (LGBTQ+). In BAE Systems, Inc. | totheworkplace and to understand their | essential part of our business model. | | we have continued our support through | views on flexible work practices. | | It continues to be important to us to thebroader Multicultural Network and its To measure progress on inclusion, support the local communities in which eight US ERGs. In addition, an executive- BAESystems, Inc. relaunched the Inclusion weoperate through charitable donations level DEI Council was formed to drive | | Index survey. Results showed improvement | and sponsorships. During 2021 the Group | | | --- | --- | --- | --- | | execution of Inc.-wide actions. | | | 1 | | | in three of four areas and that more than | contributed more than £11m | to local, | | In 2021, BAE Systems, Inc. also published | 70% of respondents feel the Company has | national and international charities and | | | areport entitled ‘A Decade of Progress’ | an inclusive culture. BAE Systems, Inc. also | not-for-profit organisations through our | | | todetail progress made over the past ten | completed an ethics survey focused on | community investment programmes. This | | | years towards increasing diversity, equity | assessing three key areas: awareness of our | includes charitable sponsorships, donations, | | | and inclusion in the workplace and to | ethics programmes; our culture of ethical | employee fundraising and volunteering. | | | sharea strategic plan to further advance | business conduct; and outcomes. Overall, | | | Our impact ourculture of inclusion. A number of compared to the Global Business Ethics We collaborate with organisations that actions are being taken across all levels of Survey benchmark, most of our employees candemonstrate a positive impact and the organisation, from a range ofeducation believed they are working in a strong encourage our employees to volunteer andexperience-based programmes to ethicsculture, and nearly all respondents insupport of their work. These include theassignment of an Inclusive Leader Goal, were familiar with our policy, training not-for-profit organisations and education which clearly defined diversity, equity programmes, and the Ethics Helpline for providers. In 2021 we worked with our andinclusion requirements for people reporting any potential ethical concerns. partner charities and organisations to managers throughout the year. | | In line with our evolving HR model, we | continue our support in response to the | | --- | --- | --- | | Communication, engagement | arenow developing a central employee | COVID-19 pandemic, working within | | andinsights | experience approach that will align and | thecommunities where we are based to | | | setthe direction for this in 2022. | enable greater social impact. Our employees | Data insights and employee sentiment are key to informing our agenda, which is why volunteered, fundraised and donated This will be supported by new data-driven we held a second employee survey this year. throughout the year, adapting from approaches to help us better understand Following our first enterprise-wide ‘How face-to-face to virtual initiatives in many key trends and insights, including how We Work’ survey in 2018, nearly 43,000 instances, in support of our established wemeasure change. This will provide employees were invited to participate in a andnew emerging charity partners, alineof sight between improvements further survey in the UK and Rest of World. alongside the donations and support inourworkplace climate and culture, provided by the Company. We listened to andourstrategic priorities and delivery. This allowed us to evaluate the impact our charity partners about the challenges ofour Behaviours, which were launched We continue to provide our employees they continued to face, and where possible, in2019, and to establish employee withcompetitive reward packages which we continued to provide greater flexibility sentiment, particularly during the pandemic. reflect their individual responsibilities asthey navigated the continuing difficulties andcontribution to business performance of the pandemic. In total our response rate was 64% and we recognise individual and team compared to 57% in 2018, with positive We use the Business for Societal Impact successes through a variety of financial sentiment increasing across all areas. (B4SI) Framework methodology to define andnon-financial recognition schemes Italsodemonstrated that our Behaviours the value of our support and its impact across the organisation. We also offer areupholding the way we work, including onour community partners, in comparison post-employment benefits aligned to an increase in trust and different ways with our peers and other organisations. competitive practice in each relevant ofworking. Thetotal value of our community homemarket. We encourage employees This benchmarked well against our investment programme donations is tobecome shareholders in BAE Systems manufacturing peers, placing us close to externally assured every year. All community and, where appropriate, offer share orin the top quartile. In particular, the most investment-related expenditure and any schemes to support this. positive responses focused on theGroup’s associated employee fundraising is reported support and response during the pandemic, through an online system which is subject including adoption of hybridworking. to annual validation checks. 1. Deloitte LLP has provided limited assurance onthetotal value of community investment programme donations. 58 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | As well as donations, sponsorship and | In addition to our regular community | | | | | --- | --- | --- | --- | --- | | | investment funding, we worked with | | | 1 | | employee fundraising, we develop and | | Community investment by type | | | | support structured education programmes | organisations in a number of our markets | | | | | and enable our employees to volunteer | toidentify community-based projects | | | | | theirskills and time. Volunteering remains | eligible for the share forfeiture funding, | | E | | | an important part of our employees’ career | made available following the unclaimed | | | | D | journey and can be pursued as a personal | assets programme in 2020. Please see | A | | --- | --- | --- | | development goal. We actively seek | page62 for details of the progress we | | | partnerships where our employees can | havemade in 2021. | | beinvolved and show their support. In Based on local practices, we apply matched Australia we have worked on establishing C funding within our established focus areas our education ambassador programme, and offer volunteering opportunities, learning from the success of the including virtual options, to encourage our programmes in the UK and Saudi Arabia employees to support our charitable where our education ambassadors offer partners and communities in alignment with their time to encourage school-age our Global Community Investment Strategy B childrento pursue STEM subjects and and guidelines. careers. In the UK in 2021 we supported | Recruit for Spouses when they saw a | Our teams also support our community | A Armed forces 30% | | --- | --- | --- | | 287%increase in demand for their services. | investment efforts by raising awareness | B Education 34% | | Our employees stepped up to support | andpromoting projects in our communities | | C Community 19% andwe saw an increase in the number of and we have continued to see increased D Heritage 6% employees volunteering time as coaches to employee engagement as a result. E Other 11% the organisation, helping them respond Our approach tothe demand. Our approach, aligned to our Community We have strong ties with armed forces Investment Policy, aims to build and nurture charities across a number of our markets, mutually beneficial relationships between and an important strand of our strategy our business, our people and local 1. Deloitte LLP has provided limited assurance issupport for organisations that assist onthetotal value of community investment communities. We partner with organisations activeservice personnel, veterans and programme donations. on initiatives that have meaning and impact theirfamilies. In Australia we partner with to our business and employees. We have Soldier On to support the health, wellbeing key criteria, where measurable impact can and employment of Australia’s returned be demonstrated, and these are: service personnel and their families. In the – Armed forces – supporting active service We have a Global Community UK we have continued to support Team personnel, veterans and their families; InvestmentCommittee, chaired by Invictus UK on their journey to the Invictus ourChiefExecutive, which governs our – Education and skills – inspiring young Games The Hague 2020 (subsequently approach, and there is a robust process people to consider STEM subjects and postponed due to COVID-19), and provided (through our Operational Framework) in careers; and additional funding in 2021 for the delivery place to approve requests for community of a virtual training programme for the – Local community – working to support investment spend. This Committee competitors whilst they were unable to the communities in which we operate. reportsto the Executive Committee on all meet in person. In the US we partner with Our community investment programme is community investment activities, including The Mission Continues, which empowers governed by an overarching global strategy, employee fundraising activities. veterans to continue their service in and supported by market-level programmes. transformative ways within their communities 2022 priorities This approach allows markets to ensure and supports their transition to new careers During 2022, we will continue to focus their programme is relevant to their lines that draw upon their military service. onsupporting the armed forces through ofbusiness, charitable needs, culture and established and new partnerships, and we We have focused on making a difference local communities, while being aligned will drive engagement with young people within the local communities in which tothe overall Group approach. through our education programmes. weare based, and in the UK for the second Our policy does not allow payments Building on the local community initiatives year running we have made significant tothird-party fundraisers nor directly to we supported during 2021, and recognising donations to more than 40 foodbanks individuals, and is focused on ensuring the continued demands and challenges localto our sites. We have also, where thecharitable organisation receives many face as a result of the pandemic, possible, linked our community support fundingdirectly. wewill focus on identifying initiatives tothe wider ESG agenda, donating around withgreater social impact in our local 3,000 trees to be planted in the UK and To avoid the risk of conflicts of interest, communities and those which can other markets. In the US, Electronic Systems anycommunity investment activity is demonstrate that our support will make has continued the successful implementation testedagainst the principle that it does adifference. In response to the success of its local community grants process notplace, or does not appear to place, wehave seen from employee involvement, providing direct support to smaller, actual or potential customers, suppliers or we will continue to seek opportunities community-focused organisations. government officials under any obligations. toprovide more in-kind support with Additionally, in response to India battling knowledge, skills and expertise to our one of the worst waves of the COVID-19 partners and demonstrate greater value to pandemic so far, wesupported relief the wider community. effortswith a company donation and employee fundraising. BAE Systems plc Annual Report 2021 59 Strategic report Sustainability – Environmental, Social and Governance ## Social continued Supporting our communities ## We have a long and proud ## history of supporting our ## armed forces – it lies at the ## very heart of what we do. Re-committing to the Covenant We value theunique relationship we have with both serving members of theArmed Forces and veterans and recognise the contribution that serving personnel, reservists and military families bring to our businesses. In 2013, we were the first defence company to sign the UK Armed Forces Covenant. Wewere also one of the firstsix winners of the Ministry of Defence Employer Recognition Scheme Gold Award, which recognises an organisation’s commitment to the Armed Forces Covenant. We are proud to have held this status continuously since the Scheme began in July 2014. In 2021 we re-signed the Armed ForcesCovenant, increasing our numberof commitments and enhancingsome of our existing pledges. This re-commitment recognisesthe work of our employee resource group VetNet, our increased support to our employee reservists, andour focus on developing skills and employment opportunities for veterans. 60 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | Offering new career opportunities | Helping heroes embrace life-changing | Defending 22 – supporting our | | --- | --- | --- | | forveterans | scholarships | veterans and military community | | Around 10% of our workforce in Australia | Since it began in 2018, we have supported | For the sixth year, BAE Systems, Inc. | | are veterans and recently we were | The Open University’s Disabled Veterans’ | employees accepted the Defending 22 | | announced as the winner of the Prime | Scholarships Fund to help further the | (D22) Challenge to demonstrate support | | Minister’s Veterans’ Employment awards | education of those who have become | and raise awareness of the daily suicide | | –large employer category. | disabled as a result of military service. | rate and mental health issues our | | | BAESystems was the first corporate partner | veterans and active duty service | Recognising the transferable skills veterans of the programme and we have already membersface. For the 22-day challenge, can bring to our business we were proud sponsored 24 veterans through their studies. more than 4,200 employees pledged toannounce in 2021 that we are working andcompleted a personal health and with the technology training company Students receive practical support for their wellness goal as a daily reminder of WithYouWithMe (WYWM) to re-train disability, as well as careers guidance to help thoselost to suicide. In honour of each andupskill a squad of ten veterans into them adjust to a civilian work environment. employee who registered, a donation information technology roles within The programme also helps to source work was made to an organisation whose thebusiness. placements and mentors for the students. mission supported improved mental As part of the WYWM partnership, veterans The transferable skills of veterans can make health and wellness for our veterans register their interest via a jobs accelerator a huge contribution, both socially and andthose serving in our armed forces. event and applicants are selected by their economically, and higher education can be D22 engages employees in alignment character traits, skills and potential rather a valuable tool in identifying and harnessing with our company values and mission, than previous work experience. Successful those skills, helping them to thrive in a and the campaign helps to raise applicants will complete a 12-week post-service career. awareness of mental health both in programme and will then be deployed to ourmilitary veteran community and BAE Systems for 12 months in early 2022, among our employees by encouraging where they will continue to learn on the job. those who participate to focus on We are also a Platinum signatory to the theirown wellbeing. Soldier On Employment Pledge which Through employee participation in the cements our commitment to the provision 2021D22 Challenge, we raised more of enhanced employment opportunity and than $170,000 of vital funding for our understanding to veterans and their families. charity partners. The five US charity | Supporting veterans and drawing on their | partners were: Headstrong; Home Base; | | --- | --- | | valuable skills is important to us, and our | GallantFew; TeamRed, White & Blue; | | Veterans Advisory Committee, which is | and Wounded Warrior Project. The 2021 | | made up of veteran members from the | campaign was international, whereby | | business, provides advice, guidance and | thecompany made donations to | | support to our workforce. Their passion | CombatStress in the UK and Sveriges | | andcommitment is helping to support | Veteranförbund Fredsbaskrarna in | | partnerships like the WYWM and provide | Sweden for those employees | | asupportive and inclusive workplace. | participating outside of the US. | BAE Systems plc Annual Report 2021 61 Strategic report Sustainability – Environmental, Social and Governance ## Social continued Nurturing digital skills in the community In Lancashire, up to 7,500 young people will benefit from a £300,000 initiative to enhance their digital skills and employability prospects. The initiative has been developed in collaboration withthe Lancashire Enterprise Partnership, CREATE Education and InnovateHer, providing Supporting our communities apathway to build Lancashire’s future digital workforce through online education, 3D printers and practical training forup to 70 schools located ## Supporting our across the region. Recognising the long-term impact of the COVID-19 pandemic on young people, ## communities these programmes will play a role in inspiring students aged 12 to 16 to ### In 2020, the Board approved a proposal for an unclaimed pursue fulfilling careers and develop skills that are in high demand from ### asset programme, with the net proceeds (£3.6m) from employers in the digital and technology ### any shares sold to be used to support the local sectors and set to increase significantly ### communities in which we operate. This funding was in over the coming years. ### addition to our regular funding for community initiatives. The funding supports our commitment to increasing opportunities for young ### During 2021 a number of potential projects suitable for people fromdiverse backgrounds andaddressing the disproportionate ### the funding were identified and the following projects number of females who go on to ### were approved via the community investment governance choose a career in Science, Technology, Engineering and Maths. ### process. So far £1.8m has been approved for projects, ### and more initiatives are being identified for 2022. 62 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance Supporting community regeneration Rochester Royal British Legion Industries STEM lab at Al-Majmaah University inBarrow-in-Furness (RBLI) veterans village expansion Developing the future of the next Making a difference to the communities Supporting the armed forces is at the generation and inspiring young people inwhich we have a presence is important, heartof what we do, and being able to toconsider careers in science, and we are proud to be involved in two demonstrate that with a specific community technology, engineering and maths projects which will bring significant benefits of veterans instils a real sense of pride for our (STEM) is important to us, and so we to Barrow-in-Furness: the development of employees. We are pleased to be doing this aredelighted to be able to support the auniversity campus (The Learning Quarter), in Kent, close to our site in Rochester. proposed establishment of a new STEM in partnership with the University of Funding and volunteers are being proposed facility at Al-Majmaah University in the Cumbria and Furness College; and the to enable theRBLI to expand their Centenary Kingdom ofSaudi Arabia. establishment of Community Resilience Village which is the largest veterans project Once operational, the laboratory at Hubs in the most disadvantaged areas of in the UK and provides housing, community theuniversity will provide facilities for the town. Together, these projects have facilities and employment support. upto 12,000 STEM students each year. been approved for up to £1m in support The unique model of the village allows The funding is intended to support from BAE Systems in total over the next residents to work on mental health, thefurnishing and equipping of the three years. mobility and physical health, at the same laboratory, and in addition we will The Learning Quarter will provide an time as employability and skills. This means collaborate with the university on the integrated further education and higher that veterans are supported throughout development of long-term initiatives. education presence, with a focus on their stay so that they can move onwards These will be similar to the support enhancing the employability of secondary and eventually out of the village. weprovide on the successful University school students and increasing their Collaboration Programme and will Our proposal will contribute to the new potential to goto university. It will not only include training and educational Move-On accommodation for the veterans enhance progression into higher education initiatives, research studies, community currently living in RBLI’s emergency for local people, but will support the activities and the provision of support accommodation, providing veterans retention and attraction of talent to the fortechnical and professional lectures. withafresh start at independent living. area, and enhance the reputation of the MiSK Foundation Fellowship town. It will provide new jobs for Barrow Community education programmes competition both directly and indirectly, and additionally inAustralia Working with the MiSK Foundation on it will generate spend in the local economy. Supporting disadvantaged young people the Fellowship programme competition, toattend and remain in school is important The Community Resilience Hubs will provide we are able to support opportunities to us, and we are pleased to commit our an opportunity for local people to develop foryoung people in Saudi Arabia to support to two programmes in our Australian skills, access services and come together make a difference to real challenges. communities that will do just that. | tobuild thriving communities. The project | | Focused on cultivating and encouraging | | --- | --- | --- | | will also support access to and use of digital | Both programmes will target young | learning and leadership in youth for | | technology, and address health inequalities | disadvantaged people who are at risk of | abetter future, the 2021 competition | | across Barrow. A social enterprise project | disengaging with education and provide | willfocus on areas related to six of the | | will be set up and delivered from the Hubs | them with inspiring projects, mentoring | UN Sustainable Development Goals | | once these are in place. | andsupport. The programmes will focus | which have been identified as national | | | onbreaking down barriers, creating social | priorities: Good Health and Wellbeing; | The HIVE Portsmouth cohesion and building aspirations whilst Quality Education; Affordable and Clean We are currently in discussions with a local improving the educational and wellbeing Energy; Decent Work and Economic charity, The HIVE Portsmouth, as we are outcomes for young people. Growth; Industry, Innovation and keen to support their project to set up a Infrastructure; and Sustainable Cities collaboration space for the voluntary sector We are proud to be able to support andCommunities. Fellows will design in Portsmouth. Having worked with The programmes that will make a difference and develop a solution to specific HIVE Portsmouth previously, we understand andhelp break the cycle of poverty, challenges, and winners will be awarded the impact their services can have on the disadvantage and disengagement from funding and a toolkit to support the local community. Charities and organisations education and help to navigate positive implementation of the solution. registered with The Hive Portsmouth will future pathways. have the opportunity to benefit from the space, allowing them to share costs, operate more efficiently, collaborate on shared projects and provide a more effective service to those most in need. There are further potential opportunities forour employees to volunteer with time and key skills, enabling a greater sense ofpride in being able to give back to the localcommunity. BAE Systems plc Annual Report 2021 63 Strategic report Sustainability – Environmental, Social and Governance ## Governance ### Governance and business conduct Employee ethics programme We engage employees throughout the year on ethics and responsible business. In the Our success depends on us being trusted Our ethics programme is continually US, we produce monthly ‘Ethics Minute’ byour stakeholders to uphold high beingenhanced to ensure we drive the messages to communicate directly with standards of governance and business rightbehaviours and that our employees employees on a range of topics, including conduct. Robust governance remains at aretrained in ethical decision-making workplace respect, creating a culture that thecore of our business and underpins andwe are embedding responsible speaks up to address issues, reinforcing thesustainability of the business. This is businesspractices, supported by our anti-retaliation, handling gifts and enhanced by an unwavering commitment corporate values. hospitalities, among others. In the UK, we toethical and responsible behaviour, in Our updated Code of Conduct was rolled produce quarterly ethics and compliance allaspects of what we do. Our industry out globally during 2021 and incorporates communications to spotlight particular areas isamongst the most highly regulated of changes to internal policies and processes including, gifts and hospitality, security and anysector, and we always strive to comply and external best practice. An employee export controls. We also actively promote with – and often exceed – applicable laws engagement programme and manager-led our Ethics Officers and Ethics Helpline and regulations. scenario training supported awareness across our business, to help ensure The effective governance of our business andunderstanding of the revised Code. employees feel they can raise issues and isfundamental to us. Our Operational Ourtraining actively encourages all seek guidance in person and in confidence. Framework sets out our approach and employees to speak up if they have Raising an ethics concern thepolicies, processes and standards to aconcern or talk to a colleague, their which we adhere and apply everywhere manager, HR or a legal contact if they Employees can raise a concern in four weoperate. Together with our Code of needguidance. The conversation-based ways:via our Ethics Officers; by email; Conduct and Supplier Principles – Guidance training offers everyone in our business onthe telephone; and online reporting for Responsible Business, these outline anopportunity to consider some of toour externally-run Ethics Helpline service. expectations for all our employees and thechallenges we face in our workplace, Our Ethics Officers receive regular role- business partners in support of our business, focusing on those that are particularly specific training to ensure that they are including our sustainability agenda. relevant to each team and encouraging equipped with the skills to give guidance aninclusive and respectful workplace toemployees seeking to raise an issue. Anti-corruption programme whereall employees can be their best. 96% of our employees completed our To maintain the high standards of ethical Training and engagement ethics training, with the majority of those conduct that our stakeholders expect, every who did not complete being employees on employee must understand the vital role We train and educate our employees to secondment, maternity leave, sick leave or they have to play and conduct business empower them to make ethical decisions. other long-term absence. These employees inan ethical and responsible way. We have All employees are required to complete will complete training in due course on their a zero tolerance policy regarding corruption ethics training annually, alongside an return to the business. in all its forms. e-learning programme of role-specific training, for example, export controls. Our anti-corruption programme is designed Pages 118 to 119 Governance framework to ensure adherence to legal and regulatory requirements recognising the bribery and corruption risks that are faced by the Company (see the Laws and regulations principal risk on page 113). The programme also provides ouremployees with practical guidance, helps them to understand what is ### Anti-corruption programme expected of them and creates an environment in which they feel they can Our anti-corruption programme isembedded in our Operational Framework, askquestions and raise issues and concerns. throughkey policies andprocesses below: – Code of Conduct – which explicitly prohibits the giving or receiving of bribes We continually check and test the byBAESystems employees; effectiveness of our programme receiving both internal and external oversight and – Advisers Policy – which governs theappointment, management and payment assurance, including encouraging feedback ofthird parties who are engaged to assist with our sales and marketing activities internally from our employees and orthe strategic development of the Group; externallyfrom independent third parties. – Gifts and Hospitality Policy – whichgoverns the offering, giving orreceiving Risk-based due diligence procedures have ofgiftsor hospitality; been implemented to address bribery, – Conflict of Interest Policy – designed to ensure that personal conflicts of interest do corruption and other financial and non- not impair employees’ judgement and damage the Group’s integrity and interests; and financial risk, and our policies include – Facilitation Payments Policy – designed to ensure that facilitation payments are processes for risk-based internal and notpaid and that theGroup and its employees seek toeliminate the practice of external approvals, ongoing monitoring facilitationpayments. andrepeat due diligence. Other relevant policies include: Community Investment Policy; Finance Policy; Fraud We drive improvements in the programme Prevention Policy; Export Control Policy; Pursuit of Export Opportunities Policy; annually to ensure it continues to meet best Lobbying, Political Donations and Other Political Activity Policy; Offset Policy; practice. During 2021, we revised our online andProcurement Policy, which include measures to address bribery and corruption risks. Gifts and Hospitality Register and refreshed job-specific anti-corruption training. Our The anti-corruption programme guides and supports our employees in making anti-corruption programme also includes responsibledecisions. our Code of Conduct and ethics training. 64 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance 1 Total ethics enquiries We collect data on ethics enquiries Dismissals for reasons relating anddismissals for reasons relating to 1 tounethical behaviour 2021 1,316 unethical behaviour. 1,1192020 2021 281 During 2021, we received 1,316 enquiries, 2362020 anincrease of 18% compared to 2020. Weattribute this upward trend to a drop Anonymity rate inenquiries in 2020 due to the onset of COVID-19 and the associated change in working patterns seen around that (for example, working from home means In 2021, 281 employees were dismissed ## 35% | | | employees are less likely to observe poor | dueto misconduct, which may include | | --- | --- | --- | --- | | (2020 32%) | | behaviour). 2021 has seen more of a return | breaches of the Code. The majority of | | | | to 2019 levels of enquiries (2019 1,432). | this19% increase from 2020 occurred | | | 1,2 | | inour USbusiness and generally related | | 2021 ethics enquiries by type | | Of the 1,316 enquiries received, 634 (48%) | | tonon-compliance with established required investigation, 30% of which were COVID-19protocols and requirements. | 1 682 | | substantiated. The top five categories for | | | --- | --- | --- | --- | | 2 | 107 | investigation were: employee conduct, | Customers’ requirements | | | | accounting charge practices, employee | andexpectations | | 3 | 15 | | | relations, management practices, and The defence industry is subject to strict 4 10 safety, health and environment. Of the regulatory controls. We maintain stringent 5 277 634investigations for 2021, 548 were internal controls that govern what we sell 996 closed and 86 remain open. These will and to whom. To identify responsible beclosed out during 2022. 27 trading risks our Product Trading Policy, requires an evaluation on all products and 568 Seven ethics enquiries were received services and trading activities. The process aboutoursuppliers. One enquiry required 89 ensures that in addition to a commercial investigation but was not substantiated. 2310 assessment, consideration is always given 68% of ethics enquiries came from the 1111 towider ESG concerns. US.The number of ethics reports varies 1812 Our Product Trading Policy and Responsible byregion. Factors influencing this include 813 Trading Principles help us to make informed the number of individuals working in decisions about the business opportunities thatregion and the cultural propensity 1 Enquiries that led to guidance and advice we pursue in accordance with our values. ofindividuals from that region to utilise Enquiries that led to investigations Speak Up mechanisms. Export of controlled goods and technology 2 Accounting charge practices must be authorised in advance by 3 Anti-corruption We value openness, and strive to create governments. Failure to comply with all 4 Data, technology and trade controls aculture where people feel they can speak applicable laws and regulations could result 5 Employee conduct up freely. Our main metric is the number in serious penalties for BAE Systems and 6 Employee relations ofenquiries made, and more specifically the theindividuals concerned and could harm number of enquiries per 1,000 employees. 7 Financial misconduct national security and foreign policy We also measure the proportion of requests 8 Management practices interests. Our Export Control Policy and for guidance compared to reports requiring 9 Policy, process and trading Procedures are designed to comply with investigation, anonymity rate and contacts 10 Safety, health and environment applicable laws and regulations, as well made directly to one of our 206 Ethics 11 Sales, manufacturing and delivery asto detect and provide timely responses Officers (one for every 400 employees) 12 Security and misuse of assets toactual or potential violations, including across our business. In 2021 our anonymity 13 Supplier and procurement prompt investigations, disclosures and rate was 35% compared to 32% from appropriate remedial actions. 2020, and35% in 2019, still well below 3 2021 ethics enquiries by region thebenchmark rate of 58% . 42% of reports were made directly to C EthicsOfficers in 2021 – we encourage D thisroute for making reports, as it allows B for an immediate response by someone familiar with the local situation. However, we are pleased that employees are using A the options available to report issues or obtain guidance, whether they choose todoso anonymously or otherwise. A US 892 B UK 371 C Saudi Arabia 40 1. BAE Systems Internal Audit has reviewed and confirmed effective systems, processes and controls D Australia 13 areinplacetocollate and validate this data. 2. We have updated our ethics enquiry reporting categories internally to reflect trends in reporting andtoachieve greater commonality in reporting categories across the business. 3. Navex 2021 anonymity benchmark. BAE Systems plc Annual Report 2021 65 Strategic report Sustainability – Environmental, Social and Governance ## Governance cont inued ### Improving industry standards How our Ethics Helpline has been used We continue to play our part in supporting others by setting an example for business How were What partners and seeking to help improve concerns raised? happened? standards across our industry. Advice Helpline We take a proactive leadership role in given ourengagement with the defence industry, ## 659 ## 682 governments, NGOs and other interested parties to develop initiatives that will address the key ethical issues affecting Still under Ethics officer investigation ourbusiness environment. For example, Concerns wetake leadership positions with industry ## 550 ## raised 86 ethics groups such as the International Forum on Business Ethical Conduct (IFBEC) Concerns Case to and the US Defense Industry Initiative (DII). Email | | 1,316 | investigated | | answer | We also regularly interact and support the | | --- | --- | --- | --- | --- | --- | | 86 | | | | | Institute of Business Ethics (IBE) and Ethics | | | | | 634 | 193 | | &Compliance Institute (ECI), and are proactive members of both the Aerospace No case Other and Defence Industries of Europe and the toanswer Aerospace, Defence, Security and Space ## 21 ## 355 trade associations. In the US, Tom Arseneault and the Inc. Chief Ethics Officer have been appointed Human rights Our Code of Conduct and other global vice-chairs of the DII Executive Steering policies and processes mandated under Committee and the DII Working Group We are committed to respecting and theOperational Framework, together with respectively, and the 2021 Best Practice upholding human rights wherever we our supporting principles and guidance, Forum featured Tom Arseneault’s operate, in respect of activities under the support our commitment to human rights participation on the CEO/COO panel full, direct control of the Company. This and are regularly reviewed. During 2021, providing insights on the view of ethical applies equally to our employees, our weconducted a human rights desktop culture from the C-Suite. Globally, we have suppliers and business partners, all of whom review of our directly controlled operations collaborated with the NATO Building are expected to adopt the same or similarly and policies to ensure they incorporate Integrity programme, including providing high standards of ethical behaviour. We are bestpractice. speakers for NATO events and giving access committed to conducting business responsibly and to maintaining and improving systems to IFBEC’s guidance materials. We have also Our Supplier Principles – Guidance for and processes to minimise the risk of slavery supported IFBEC’s programme for members Responsible Business communicate and human trafficking in our business or to benchmark employee ethics programmes thehuman rights principles we expect supply chain. Our human rights statement and share best practice. ofour suppliers (see page 67). Our Supplier outlines our approach to responsible Principles are embedded within risk-based 2022 priorities business behaviour, including in relation due diligence during the supplier evaluation During 2022, we aim to: toanti-corruption, the environment, as stage against non-financial risks and are wellas our workplace, supply chain, local – continue promotion of our Speak-Up also considered during ongoing supplier communities and products. culture utilising annual ethics training management assessments. andregular communications which Our approach to human rights constitutes: We publish our annual responses to the willinclude anonymised case studies to – maintaining high ethical standards and UKand Australian Modern Slavery Acts, promote transparency and accountability. acting in a socially responsible manner anda statement in response to the inaccordance with applicable laws; California Transparency in Supply Chains For more information on our anti-corruption Acton our website. During 2021, our programme visit – respecting and supporting the communities baesystems.com/ethicsandanti-corruption UKand Australian businesses established in which our businesses are located; working groups to review and strengthen – maintaining and improving global policies how modern slavery and human trafficking and processes which relate to human risk is identified, assessed and managed rights wherever we operate, in respect across our business. In 2022 mandatory ofactivities under the full, direct control training will be introduced for relevant of the Company; employees, including those within – respecting the labour and workplace procurement, with key performance rights of our employees in accordance indicators being introduced tomonitor with national laws; ourprogress. – responsible product development; and Our approach to identifying and assessing | – appointing and working with suppliers | human rights risks is embedded within | | --- | --- | | and business partners who are expected | ourapproach to risk management (see | | to adopt high standards of ethical | page104). | behaviour and business conduct, consistent with our own, in accordance For more information on our human rightsapproach and statement visit with applicable national laws. baesystems.com/humanrights 66 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### Responsible supply chain We periodically update our Supplier Supplier assurance Principles and our standard terms and We collaborate with suppliers to deliver During 2021, we undertook supply chain conditions to reflect changes in laws and customer capability, spending £10.5bn assurance activity to assess compliance with regulations and to incorporate and progress withmore than 20,000 directly-contracted our Supplier Principles. This activity supports issues that areimportant to the Group. suppliers worldwide. These relationships us in identifying and mitigating risks across Forexample, we will be updating our areoften long-lasting due tothe complexity our supply chain. Our assessments covered Supplier Principles in 2022 to expand our of our products and theirlong lifecycles, 25% of global spend. This activity will expectations of suppliers in relation to soit is critical that oursuppliers share our continue in 2022. human rights and sustainability and we will values. To ensure wework with suppliers be including anti-human trafficking (US) 2022 priorities who share our approach to responsible clauses and modern slavery (UK and During 2022, we aim to: business, we monitor and manage them Australia) clauses within our updated throughout thebusiness relationship. – launch updated Supplier Principles; standard terms and conditions. – continue to assess suppliers on the Governance of supply chain As part of continuous improvement and to adoption of our Supplier Principles; and Our ambition in procurement is to be support the Group’s sustainability agenda, – develop our Supply Chain Sustainability responsible and sustainable across the during 2021 we worked with our suppliers Strategy. lifeofthe contracts we have in place. to understand where they are on their own Wecannot achieve this alone, therefore net zero journey, while seeking to identify Our UK Modern Slavery Act, Australian Modern itisimportant that we collaborate and Slavery Act and California Transparency in Supply opportunities relating to sustainable partnerwith suppliers to make a positive Chain Act statements can be viewed at procurement (see page 67). In the UK baesystems.com business difference over the long term. andAustralia, we established working | Our supply chain management starts | groups toreview how modern slavery and | | --- | --- | | withour Global Procurement Policy | human trafficking risk is identified, assessed | | whichdefines the requirements to be | and managed across our business as part | | implemented by each of our businesses | ofour overall compliance programme | | forthe establishment of procurement | (seepage 66). | control and the management of supplier- During 2022 we will develop a strategy related risk. androadmap, which will outline our Our Global Procurement Policy requires approach to integrating ESG principles ourbusinesses to communicate our across how we work with suppliers. ‘Supplier Principles – Guidance for Supplier due diligence Responsible Business’ to our suppliers. Risk-based due diligence is undertaken TheSupplier Principles are based on our forall third parties with whom we engage, Code of Conduct and Group policies. whether supplier, adviser, potential joint Theyset out what we expect from our venture partner, acquisition opportunity suppliers and their supply chains and orother third party. Where required, this outlinebest practice guidance for may include establishing the identity of the suppliers,in relation to matters such as third party in terms of beneficial ownership anti-corruption, how employees are to and gathering of sufficient information to betreated, international trade compliance, assess relevant bribery and corruption risks. environment, counterfeit components At the contracting stage we stipulate our andthe BAE Systems Code of Conduct. expectation that suppliers embrace our Our Supplier Principles and our standard standards on ethical behaviour, including terms and conditions require suppliers those set out in our Supplier Principles. tocomply with all applicable laws Once a supplier has been approved and andregulations, including those related acontract has been signed, we continue tohuman rights, anti-slavery and toactively manage and monitor that theenvironment. supplier throughout the life of their contract. This includes managing any significant changes in our relationship withthe supplier as well as undertaking ongoing risk-based due diligence. BAE Systems plc Annual Report 2021 67 Strategic report # Group financial review We monitor the underlying financial performance of the Group using the alternative performance measures defined in the Financial glossary on page 78. These measures are not defined in IFRS¹ and, therefore, are considered to be non-GAAP² measures. Accordingly, the relevant IFRS³ measures are also presented where appropriate. ![img-0.jpeg](img-0.jpeg) 1. International Financial Reporting Standards. 2. Generally Accepted Accounting Principles. 3. The purposes and definitions of non-GAAP measures are provided in the Financial glossary on page 78. 4. Growth rates for Sales, Underlying EBIT and Underlying EPS are on a constant currency basis (i.e. current year compared with prior year translated at current year exchange rates). All other growth rates and year-on-year movements are on a reported currency basis. 5. With effect from 2021, the Group adopted the underlying EBIT profitability measure in place of the underlying EBITA measure. Further details are provided in the Financial glossary on page 78. 6. The one-off tax benefit in 2021 is described on page 71. Growth rate disclosed excludes the impact of the 2021 one-off tax benefit. 7. 2020 Free cash flow of £1,367m is before a £1bn UK pension scheme contribution. 8. Including share of equity accounted investments. 9. Order book represents the transaction price allocated to unsatisfied and partially satisfied performance obligations as defined by IFRS 15 Revenue from Contracts with Customers. 10. The 2020 dividend per share of 23.7p is in respect of the year ended 31 December 2020. An interim dividend of 13.8p per share was paid in 2020, in respect of the year ended 31 December 2019, having been proposed as a 2019 final dividend but deferred in light of the pandemic. 68 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | | | | KPI | BONUS | | | --- | --- | --- | --- | --- | --- | | | | | References to Key Performance | 75% of the UK executive | | | | | | Indicators(KPIs) throughout the | directors’ annual bonuses are | | | | | | AnnualReport. | based on the achievement of | | | Financial performance | | | | financial KPIs (see page 157). | | | | 3 | | | | 1 | | Financial performance measures as defined by the Group | | Financial performance measures derived from IFRS | | | | | Sales | | Revenue | | | | KPI 4 | £21,310m 5% growth | | £19,521m 1% growth | | | --- | --- | --- | --- | | 2021 | 21,310 | 2021 | 19,521 | | 2020 20,862 | | 2020 19,277 | | 5 Underlying EBIT Operating profit KPI 4 | £2,205m 13% growth | | £2,389m 24% growth | | | --- | --- | --- | --- | | 2021 | 2,205 | 2021 | 2,389 | | 2020 2,037 | | 2020 1,930 | | 5,6 Underlying earnings per share excluding one-off tax benefit Basic earnings per share Including 2021 BONUS KPI one-off tax benefit 4 | 47.8p 12% growth | 50.7p | | 55.2p 36% growth | | | --- | --- | --- | --- | --- | | 2021 | | 47.8 50.7 | 2021 | 55.2 | | 2020 44.3 | | | 2020 40.7 | | 7 Free cash flow Net cash flow from operating activities KPI | £1,864m £497m higher | | £2,447m £1,281m higher | | | --- | --- | --- | --- | | 2021 | 1,864 | 2021 | 2,447 | | 2020 1,367 | | 2020 1,166 | | 9 | Net debt (excluding lease liabilities) | | | | | | | | Order book | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | | | BONUS | | KPI | | | | £ | ( 2,160 | ) m £558m decrease | | | | | | £35.5bn £0.8bn decrease | | | 2021 | | | ( 2,160 | ) | | | | 2021 | 35.5 | | 2020 | | | | | ( 2,718 | ) | | 2020 36.3 | | 8 | Order intake | | | Group’s share of the net post-employment benefits deficit | | | | --- | --- | --- | --- | --- | --- | | | BONUS | KPI | | | | | | | | £ | ( 2.1 | ) bn £2.4bn decrease | ## £21,458m £543m increase | 2021 | | 21,458 | 2021 | | ( 2.1 ) | | | --- | --- | --- | --- | --- | --- | --- | | 2020 20,915 | | | 2020 | | | ( 4.5 ) | | | 8 | | | 10 | | | | Order backlog | | | Dividend per share | | | | | £44.0bn £1.2bn decrease | | 25.1p 6% growth | | | --- | --- | --- | --- | | 2021 | 44.0 | 2021 | 25.1 | | 2020 45.2 | | 2020 23.7 | | BAE Systems plc Annual Report 2021 69 Strategic report ## Group financial review continued | Income statement | Income statement | | | | | --- | --- | --- | --- | --- | | | | | 2021 | 2020 | | Sales increased by £0.4bn to £21.3bn | | 3 | | | | | Financial performance measures as defined by the Group | | £m | £m | (2020£20.9bn), a 5% increase on a Sales KPI 21,310 20,862 1 | constant currency basis | . | | | | | | --- | --- | --- | --- | --- | --- | | | | | 2 | KPI | | | | | Underlying EBIT | | | 2,205 2,037 | Revenue increased by £0.2bn to £19.5bn Return on sales 10.3% 9.8% (2020 £19.3bn). 4 | | 2 | Financial performance measures derived from IFRS | £m £m | | --- | --- | --- | --- | | Underlying EBIT | increased to £2,205m | | | | (2020 £2,037m), giving a return onsales | | Revenue 19,521 19,277 | | | of10.3% (2020 9.8%). Excluding the | | Operating profit 2,389 1,930 | | impactof exchange translation, theincrease Return on revenue 12.2% 10.0% was 13%. Reconciliation of sales to revenue £m £m Operating profit increased by £459m Sales KPI 21,310 20,862 to£2,389m (2020 £1,930m). Deduct Group’s share of revenue of equity accounted investments (2,979) (2,652) Non-recurring items in 2021 reflect againof £350m, comprising a gain in Add Subsidiaries’ revenue from equity accounted investments 1,190 1,067 HQon thesale of the Filton and Broughton Revenue 19,521 19,277 sites (£182m), gains on disposal of 2 | Advanced Electronics Company in the | Reconciliation of underlying EBIT | | to operating profit £m £m | | | | --- | --- | --- | --- | --- | --- | | Airsector (£132m, of which £63m is | | 2 | | KPI | | | | Underlying EBIT | | | | 2,205 2,037 | attributable tonon-controlling interests) Non-recurring items 350 19 and on disposal of a business in our Amortisation of programme, customer-related Electronic Systems segment (£26m), and other intangible assets (86) (42) andanet £10m gain relating to historical Impairment of intangible assets (15) (4) andcurrent year acquisitions. The credit of£19min 2020 comprised a settlement Financial expense of equity accounted investments (27) (32) gainon a US pension annuity buy-out Taxation expense of equity accounted investments (38) (48) of£64m, offset by charges relating Operating profit 2,389 1,930 toacquisitions and disposals of £38m Net finance costs (279) (334) andaGuaranteed Minimum Pension Taxation expense (198) (225) equalisation charge of£7m. Profit for the year 1,912 1,371 Amortisation of programme, customer-related and other intangible Underlying interest expense (241) (255) assets is£86m (2020 £42m), the increase Net interest expense on post-employment benefit obligations (67) (70) being driven by amortisation charges in the Fair value and foreign exchange adjustments on financial Electronic Systems businesses acquired instrumentsandinvestments 2 (41) during 2020. Net finance costs (including equity accounted investments) (306) (366) Impairment of intangible assets ### in2021is £15m (2020 £4m). Exchange rates Average 2021 2020 Net finance costs, including equity accounted investments, were £306m £/$ 1.376 1.283 (2020£366m). The underlying interest £/€ 1.163 1.125 charge, excluding pension accounting, £/A$ 1.832 1.862 andfair value and foreign exchange adjustments on financial instruments and Sensitivity analysis investments was £241m (2020 £255m). Estimated impact on sales of a ten cent movement in the average exchange rate £m Netinterest expense on the Group’s $ 625 pension deficit was £67m (2020 £70m). € 115 A$ 45 1. Current year compared with prior year translated at current year exchange rates. 2. With effect from 2021, the Group adopted the underlying EBIT profitability measure (see Financial glossary on page 78), to include charges relating tosoftware and development intangible amortisation, in place of the previously reported underlying EBITA measure. It reflects a better measure of underlying profitability, by including amortisation of software and development intangibles as these charges are viewed as a recurring operational costforthe business. Underlying earnings per share has also been recalculated to ensure consistency with the updated operational profitability measure. Theunderlying performance for 2020 of segments and the Group has been re-presented on this new basis. During 2020 the Group determined that Freecash flow was its key performance measure for utilisation of cash at a Group level. The Group continues to use Operating business cash flow as itskeysegment metric, to monitor operational cash generation. 3. The purposes and definitions of non-GAAP measures are provided in the Financial glossary on page 78. 4. International Financial Reporting Standards. 70 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance | Taxation expense, including equity | Earnings per share | | | | --- | --- | --- | --- | | accounted investments, of £236m reflects | | 1 | | | | Financial performance measures as defined by the Group | | 2021 2020 | theGroup’s underlying effective tax rate Underlying earnings (excluding the 2021 one-off tax benefit) £1,523m £1,414m forthe year of 18%, plus the tax charge onnon-recurring items, less a one-off tax Underlying earnings per share (excluding the 2021 one-off taxbenefit) KPI 47.8p 44.3p benefit of £94m in respect of agreements reached regarding the exposure arising Underlying earnings (including the 2021 one-off tax benefit) £1,617m £1,414m fromthe April 2019 European Commission Underlying earnings per share (including the 2021 one-off decision regarding the UK’s Controlled taxbenefit) 50.7p 44.3p Foreign Company regime and the impact ofthe UK tax rate adjustment (see note 6). 2 Financial performance measures derived from IFRS The 2020 charge of £273m reflected the Profit for the year attributable to equity shareholders £1,758m £1,299m Group’s underlying effective tax rate for Basic earnings per share 55.2p 40.7p theyear of 17%. 1 The calculation of the underlying effective Reconciliation of underlying EBIT to underlying earnings £m £m tax rate is shown in note 6 to the Group Underlying EBIT 2,205 2,037 accounts on page 215. Underlying interest expense (241) (255) 1,964 1,782 ### Earnings per share Taxation expense (at the underlying effective tax rate, Underlying earnings per share for excluding the 2021 one-off tax benefit) (350) (296) theyear (excluding the one-off tax benefit) | increased by 12%, excluding the impact of | | Non-controlling interests (91) (72) | | | --- | --- | --- | --- | | exchange translation, to 47.8p (2020 44.3p). | | Underlying earnings (excluding the 2021 one-off tax benefit) 1,523 1,414 | | | Basic earnings per share was 55.2p | | One-off tax benefit 94 – | | | (202040.7p). | | Underlying earnings (including the 2021 one-off tax benefit) 1,617 1,414 | | | Orders | | Reconciliation of underlying earnings to profit for the year | | | | 3 | attributableto equity shareholders | £m £m | | Order intake | increased by £543m | | | | to£21,458m (2020 £20,915m). Our | | Underlying earnings (excluding the 2021 one-off tax benefit) 1,523 1,414 | | US-managed businesses had a book- Non-recurring items, post tax 279 15 4 to-bill ratio of more than one. Amortisation of programme, customer-related and other 3 | Order backlog | | decreased by £1.2bn | intangible assets, and impairment of intangibles, post tax (84) (38) | | --- | --- | --- | --- | | to£44.0bn. | | | Net interest expense on post-employment benefit obligations, | | | 5 | | posttax (55) (58) | | Order book | decreased by £0.8bn | | | | to£35.5bn. | | | Fair value and foreign exchange adjustments on financial | instruments andinvestments, post tax 1 (34) One-off tax benefit (2021) 94 – Profit for the year attributable toequityshareholders 1,758 1,299 Non-controlling interests 154 72 Profit for the year 1,912 1,371 ### Orders 1 | Financial performance measures as defined by the Group | | | | 2021 2020 | | --- | --- | --- | --- | --- | | | 3 | KPI | | | | Order intake | | | £21,458m £20,915m | | 3 Order backlog £44.0bn £45.2bn 2 Financial performance measures derived from IFRS 5 Order book £35.5bn £36.3bn 1. The purposes and definitions of non-GAAP measures are provided in the Financial glossary onpage 78. 2. International Financial Reporting Standards. 3. Including share of equity accounted investments. 4. Ratio of Order intake to Sales. 5. Order book represents the transaction price allocated to unsatisfied and partially satisfied performance obligations as defined by IFRS 15 Revenue from Contracts with Customers. BAE Systems plc Annual Report 2021 71 Strategic report ## Group financial review continued | Cash flow | | Cash flow | | | | --- | --- | --- | --- | --- | | | 1 | | 2021 | 2020 | | Free cash flow | was £1,864m (2020 £367m, | | | | | | | Financial performance measures as defined by the Group | £m | £m | including the impact of the Group’s £1bn 1 KPI Free cash flow 1,864 367 contribution into the UK pension scheme). The strong inflow in the year was driven 2 Financial performance measures derived from IFRS £m £m byour sharp focus on liquidity, good operational performance and improved Net cash flow from operating activities 2,447 1,166 working capital management including some accelerated collections. Reconciliation from free cash flow to net cash flow from operating activities £m £m Net cash inflow from operating Free cash flow KPI 1,864 367 activities was £2,447m (2020 £1,166m Add back Interest paid, net of interest received 224 208 including the effect of the £1bn contribution | to the UK pension scheme). | Add back Taxation 234 251 | | | | | --- | --- | --- | --- | --- | | | | 3 | KPI | | | | Operating business cash flow | | | 2,322 826 | Taxation payments were £234m (2020£251m). Add back Net capital expenditure andfinancialinvestment 209 392 Add back Principal element of lease payments and receipts 207 226 Net capital expenditure and financial investment was £209m (2020 £392m), Deduct Dividends received from equity accountedinvestments (57) (27) which includes the impact of an inflow from Deduct Taxation (234) (251) the proceeds of the site sales of £271m. Net cash flow from operating activities 2,447 1,166 Dividends received from equity Net capital expenditure andfinancialinvestment (209) (392) accounted investments amounted Principal element of finance lease receipts 10 10 to£57m (2020£27m). Dividends received from equity accountedinvestments 57 27 | Interest received was £23m (2020 £19m). | Interest received 23 19 | | --- | --- | | Cash flows in respect of acquisitions, | Acquisitions and disposals 185 (1,701) | | disposals and held for sale assets | Net cash flow from investing activities 66 (2,037) | | comprises a net inflow of £185m, | Interest paid (247) (227) | primarilyin relation to the divestment Equity dividends paid (777) (746) oftheAdvanced Electronics Company. Purchase of own shares (368) – Thecash outflows in 2020 in respect of acquisitions, disposals, held for sale Partial disposal of shareholding in subsidiary undertaking 28 27 assets and the partial disposal of Dividends paid to non-controlling interests (202) (19) shareholdings in subsidiary undertakings Principal element of lease payments (217) (236) primarily represented the two US Cash flow from derivative financialinstruments acquisitions and that of Techmodal, with (excludingcashflow hedges) (88) 16 aninflow of £27m from the reduction Movement in cash collateral (18) (2) intheGroup’s shareholding in Overhaul andMaintenance Company (OMC). Net cash flow from loans (367) 2,160 Net cash flow from financing activities (2,256) 973 Interest paid was £247m (2020 £227m). Net increase in cash and cash equivalents 257 102 Equity dividends paid in 2021 represents Add back/(deduct) Net cash flow from loans 367 (2,160) the 2020 final dividend (£461m) and the Foreign exchange translation (50) 220 2021 interim dividend (£316m). Other non-cash movements (16) (137) The share buyback saw an outflow Decrease/(increase) in net debt (excluding lease liabilities) 558 (1,975) of£368m in the year. The full £500m programme completed in February 2022. Opening net debt (excluding lease liabilities) (2,718) (743) Net debt (excluding lease liabilities) KPI (2,160) (2,718) Dividends paid to non-controlling interests were £202m (2020 £19m), primarily reflecting payments made Pages 257 and 258 byourpartially-owned subsidiaries Notes 27 and 29 to the Group accounts inSaudiArabia. There was a cash outflow from derivative financial instruments of 1. During 2020 the Group determined that Free cash flow is its key performance measure for utilisation £88m(2020 £16m inflow), arising from ofcashata Group level. The Group continues to use Operating business cash flow as its key segment rolling hedges relating to balances within metric,to monitor operational cash generation. theGroup’s subsidiaries andequity 2. International Financial Reporting Standards. 3. Operating business cash flow is defined in the Financial glossary on page 78. accountedinvestments. Foreign exchange translation primarily arises in respect of the Group’s US dollar- denominated borrowing. 72 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### Balance sheet Balance sheet 2021 2020 Intangible assets of £11.7bn are Summarised balance sheet £m £m inlinewith the prior year. Intangible assets 11,716 11,745 Property, plant and equipment, Property, plant and equipment, right-of-use assets and 1 right-of-use assets and investment investmentproperty 3,204 3,158 property is £3.2bn (2020 £3.2bn). Equity accounted investments and otherinvestments 630 409 1 Equity accounted investments Working capital (2,934) (3,021) andother investments is £630m Lease liabilities (1,252) (1,203) (2020£409m). Group’s share of net IAS 19 post-employment benefits deficit (2,124) (4,485) The Group’s share of the net IAS 19 Net tax assets and liabilities 589 906 post-employment benefits deficit was Net other financial assets and liabilities (1) 36 £2.1bn (2020 £4.5bn). The decrease was Net debt (excluding lease liabilities) KPI (2,160) (2,718) driven by higher discount rates and strong Net assets held for sale – 94 asset performance. The major movements Net assets 7,668 4,921 in the net deficit are shown inthe bridge chart on this page. Details of the Group’s Components of net debt (excluding lease liabilities) £m £m post-employment benefits schemes are Cash and cash equivalents 2,917 2,768 provided in note 24 tothe Group accounts on page 241. Debt-related derivative financial instruments(net) (16) (62) Loans – non-current (4,604) (4,957) A net deferred tax asset of £0.4bn (2020 £0.8bn) relating to the Group’s pension Loans and overdrafts – current (457) (467) deficit is included within net tax assets Net debt (excluding lease liabilities) KPI (2,160) (2,718) and liabilities. In aggregate, there was a £0.1bn increase ### Exchange rates inworking capital. Year end 2021 2020 Lease liabilities are £1.3bn (2020 £1.2bn). £/$ 1.354 1.367 £/€ 1.191 1.117 The Group’s net debt (excluding lease liabilities) at 31 December 2021 is £2,160m, £/A$ 1.863 1.770 anet decrease of £558m from the position at the start of the year. This is primarily aresult of the strong Free cash flow performance, partially offset by dividends paid and the share buyback. The maturity Accounting net pension deficit – bridge Maturity of the Group’s borrowings ofthe Group’s borrowings is shown in (£bn) (£bn) thechart on this page. 2020 ( 4.5 ) 2021 ( 5.1 ) Cash and cash equivalents of £2,917m Add back 2020 allocation 2 ( 0.4 ) 2022 ( 4.6 ) (2020£2,768m) are held primarily for UK scheme funding contributions 0.1 2023 ( 4.6 ) therepayment of debt securities, pension deficit funding when required, payment Interest on liabilities ( 0.5 ) 2024 ( 4.0 ) ofthe 2021 final dividend, funding of 2.8Return on assets 2025 ( 3.5 ) thecompletion of the share buyback | Real discount rate 1.4 | | | | 2026 | | ( 3.5 | ) | programme announced in July 2021 | | --- | --- | --- | --- | --- | --- | --- | --- | --- | | Experience losses | | | ( 1.1 ) | 2027 | | ( 3.1 | ) | andmanagement of working capital. | | Other | | | ( 0.1 ) | 2028 | | ( 3.1 | ) | | | Deduct 2021 allocation | | 2 | 0.2 | 2029 | | ( 3.1 | ) | | | 2021 | | | ( 2.1 ) | | | ( | ) 3 | | | | | | | 2030 | | 2.1 | | | | | Page 241 | | | | Page 239 | | | | | | Note 24 to the Group accounts | | | | Note 21 to the Group accounts | | | | 1. Funding received of £806m (2020 £678m) from the UK government for property, plant and equipment at Barrow-in-Furness, UK, relating to the Dreadnought submarine programme included in working capital in theConsolidated balance sheet ispresented here in property, plant and equipment, and investment property. 2. Amounts allocated to equity accounted investments. 3. Repayable in 2031 (£0.7bn), 2041 (£0.3bn), 2044 (£0.4bn) and 2050 (£0.7bn). BAE Systems plc Annual Report 2021 73 Strategic report # Group financial review continued ## Accounting policies ### Key sources of estimation uncertainty The application of the Group's accounting policies requires the use of estimates. The impact of the COVID-19 pandemic on economic activity has been significant, and its uncertain nature means this may continue as governments continue to respond. While the Group has addressed the impact on its business effectively to date, given the ongoing risks and uncertainties, it continues to conduct ongoing risk assessments and scenario planning in order that it can respond to potential rapid changes in circumstances. The Group will therefore need to consider a range of estimates and assumptions in the application of its accounting policies and management's assessment of the carrying values of assets and liabilities. In the event that these estimates or assumptions prove to be incorrect, there may be an adjustment to the carrying values of assets and liabilities within the next year. Potential areas of the Group's financial statements which could be materially impacted may include, but are not limited to: #### Revenue and profit recognition Revenue £19,521m (year ended 31 December 2021) See note 1 to the Group accounts #### Post-employment benefit obligations Group's share of the net IAS 19 post-employment scheme deficit £2.1bn (at 31 December 2021) See note 24 to the Group accounts Page 198 Key sources of estimation uncertainty ## Changes in accounting policies No new or amended standards which became applicable for the year ended 31 December 2021 had a material impact on the Group or required the Group to change its accounting policies. ## Capital ### Objectives Maintain the Group's investment grade credit rating and ensure operating flexibility, whilst: - meeting its pension obligations; - investing in research and technology and pursuing other organic investment opportunities; - paying dividends in line with the Group's policy of long-term sustainable cover of around two times underlying earnings; - making accelerated returns of capital to shareholders when the balance sheet allows and when the return from doing so is in excess of the Group's Weighted Average Cost of Capital; and - investing in value-enhancing acquisitions, where market conditions are right, where they deliver on the Group's strategy and where they offer greater long-term value than repurchasing the Company's own shares. ### Policies The Group funds its operations through a mixture of equity funding and debt financing, including bank and capital market borrowings. The capital structure of the Group reflects the judgement of the directors of an appropriate balance of funding required. Three credit rating agencies publish credit ratings for the Group: | Rating | Outlook | Category | | --- | --- | --- | | **Moody's Investors Service** | | | | Baa2 | Stable | Investment grade | | **Standard & Poor's Ratings Services** | | | | BBB | Stable | Investment grade | | **Fitch Ratings** | | | | BBB | Stable | Investment grade | Page 254 Note 26 to the Group accounts ## Dividends and share buyback As part of the Group's capital allocation policy, the Group plans to pay dividends in line with its policy of long-term sustainable cover of around two times underlying earnings. The Board has recommended a final dividend of 15.2p per share making a total of 25.1p per share in respect of the year ended 31 December 2021. At this level, the annual dividend is covered approximately two times by underlying earnings. Subject to shareholder approval at the 2022 Annual General Meeting, the dividend will be paid on 1 June 2022 to holders of ordinary shares registered on 22 April 2022. The ex-dividend date is 21 April 2022. At 31 December 2021, the Company had retained earnings of £2.8bn (2020 £2.7bn), the non-distributable portion of which is £875m (2020 £827m) (see page 268). Total external dividends relating to the year ended 31 December 2021 are £797m (2020 £762m). The 2021 dividends consist of the interim dividend paid during the year in respect of the first half of 2021 of £316m (2020 £302m) and the final dividend proposed of approximately £481m (2020 £460m). On an annual basis, the Company receives dividends from its subsidiaries to increase its distributable reserves and, accordingly, the Company expects to have sufficient distributable reserves to support its dividend policy. The Group's dividend policy is underpinned by its viability and going concern statements (see pages 122 and 123). The £500m share buyback programme announced on 29 July 2021 was completed in February 2022. 74 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### Treasury Currency Whilst the Group aims to maximise the taxefficiency of its business transactions, The Group’s treasury activities are overseen Reduce the Group’s exposure to itdoes not use structures in its tax planning by the Treasury Review Management transactional volatility in earnings and cash that are contrary to the intentions of the Committee (TRMC). Two executive directors flows from movements in foreign currency relevant legislature. The Group interprets are members of the TRMC, including the exchange rates. relevant tax laws in a reasonable way and Group Finance Director who chairs the – All material firm transactional exposures ensures that transactions are structured in Committee. The TRMC also has are hedged. away that is consistent with a relationship representatives with legal and tax expertise. – The Group does not hedge the translation of cooperative compliance with tax The Group operates a centralised treasury effect of exchange rate movements on: authorities. It also actively considers the department that is accountable to the (a) the income statements or balance implications of any planning for the Group’s TRMC for managing treasury activities in sheets of foreign subsidiaries; and wider corporate reputation. accordance with the treasury policies (b) equity accounted investments it approved by the Board. The Group is open and transparent with regards as long-term investments. regard to decision-making, governance Objectives/policies Page 230 andtax planning in its business, keeping Net debt (excluding lease liabilities) Note 14 to the Group accounts taxauthorities informed of who has Maintain a balance between the continuity, responsibility, how decisions are reached, ### flexibility and cost of debt funding through Tax strategy how the business is structured and where the use of borrowings from a range of different parts of the business are located. The Group’s tax strategy is to: markets with a range of maturities, – ensure compliance with all applicable BAE Systems operates internationally currencies and interest rates, reflecting the taxlaws and regulations; and andissubject to tax in many different Group’s risk profile. jurisdictions. The Group employs – manage the Group’s tax expense in – Material borrowings are arranged by the professional tax managers and takes awaythat is consistent with its values central treasury department and funds appropriate advice from reputable and its legal obligations in all relevant raised are lent onward to operating professional firms. The Group is routinely jurisdictions. subsidiaries as required. subject to tax audits and reviews which The Group does not tolerate activities cantake a considerable period of time Interest rates designed to facilitate tax evasion offences. toconclude. Provision is made for Manage the exposure to interest rate knownissues based on management’s fluctuations on borrowings through varying The Group promotes collaborative interpretation of country-specific the proportion of fixed rate debt relative to professional working with tax authorities legislationand the likely outcome of floating rate debt with derivative inorder to build open, transparent and negotiations or litigation. The assessment instruments, including interest rate and trusted relationships. As part of this, the and management of tax risks are regularly cross-currency swaps. Group engages in open and early dialogue reviewed by the Audit Committee, as is to discuss tax planning, strategy, risks and – A minimum of 50% and a maximum of theGroup’s tax strategy. significant transactions, and discloses any 90% of gross debt is maintained at fixed significant uncertainties in relation to tax Arm’s-length principles are applied in the interest rates. matters. Queries and information requests pricing of all intra-group transactions of Liquidity by tax authorities are responded to in a goods and services in accordance with Maintain adequate undrawn committed timely fashion and the Group ensures that Organisation for Economic Co-operation borrowing facilities. tax authorities are kept informed about and Development guidelines. Where howissues are progressing. appropriate, the Group engages with – An undrawn committed Revolving Credit Facility of £2bn contracted to April 2025 governments in relation to proposed The Group seeks to resolve issues in real is available to meet general corporate legislation and tax policy. time and before returns are filed where funding requirements. possible. Fair, accurate and timely Page 214 Note 6 to the Group accounts disclosures are made in tax returns, Monitor and control counterparty credit risk reportsand documents that the Group and credit limit utilisation. fileswith, or submits to, tax authorities. – The Group adopts a conservative Where disagreements over tax arise, the approach to the investment of its surplus Group works proactively to seek to resolve cash. It is deposited with financial all issues by agreement (where possible) institutions with strong credit ratings for andreach reasonable solutions. In the short periods. UK,the Group is subject to an annual risk assessment by HM Revenue & Customs andstrives to achieve as low a risk rating as can be achieved by a group of BAE Systems’ size and complexity. BAE Systems plc Annual Report 2021 75 Strategic report ## Guidance for 2022 ## While the Group is subject to geopolitical and other uncertainties, the following ## guidance is provided on current expected operational performance. The guidance is based on the measures used to monitor the underlying financial performance of the Group. Reconciliations from these measures to the financial performance measures defined in International Financial Reporting Standards for 2021 are provided in the Group financial review on pages 68 to 75. ### Group guidance With a strong year behind us, we look forward to continued top-line growth with margin expansion and good cashdelivery against our rolling targets. Guidance isprovided on the basis of an exchange rate of $1.38:£1, which is in line with the actual 2021 exchange rate, therefore guidance is the same for both reported and constant exchange rates. ## Sales ### Growth expected to be in the 2% to 4% range over 2021. – Growth expected in the Electronic Systems, Air, Maritime and Cyber & Intelligence segments, whilst Platforms & Services (US) is expected to be stable. – Approximately 75% of the expected sales are already in the order backlog. | Free cash flow target for 2022 | Three-year free cash flow target | | --- | --- | | in excess of | (2022 to 2024) in excess of | | £1bn | £4bn | The three-year free cash flow target for the period 2020 to 2022, originally set at £3.5bn to £3.8bn, has been upgraded tobe in excess of £4bn. ### Exchange rate assumption of $1.38:£1 Finance costs expected to be around £240m ### Sensitivity to EPS is around one pence for Group effective tax rate expected to be around 20% ### everyfivecentmovement ### Non-controlling interest expected to be around £70m | Underlying EBIT | Underlying EPS | | --- | --- | | expected to increase in the range of | expected to increase in the range of | | 4% to 6% | 4% to 6% | 76 BAE Systems plc Annual Report 2021 2021: £2,205m 2021: 47.8p Strategic report Financial statementsGovernance The following table provides guidance by segment, aligned to the Group guidance. ### Segmental guidance Expected underlying 1 | Year ended 31 December 2022 Expected sales | | | EBIT margin | | --- | --- | --- | --- | | | Electronic Systems | Up 2% to 4% 16% to 17% | | | | Platforms & Services (US) | Stable 8% to 9% | | | | Air | Up 2% to 4% 10% to 11% | | | | Maritime | Up 3% to 5% 8% to 9% | | | | Cyber & Intelligence | Up 3% to 5% 8% to 9% | | 1. Underlying EBIT as percentage of Sales. In 2022, HQ underlying EBIT is expected to be broadly similar to 2021 (expense of £120m). ### Sales for the year ended 31 December 2021 – segmental reclassification With effect from 2022, the Group has established a new Digital Intelligence business, bringing together ournon-US digital and data capabilities to further strengthen how we deliver these services and capabilities forour customers. The new Digital Intelligence business will be reporting within the Cyber & Intelligence segment. In addition, our BAE Systems Australia business is transitioning fromthe Air segment to the Maritimesegment. Sales performance for 2021 is re-presented below to reflect the new business structures, along with reconciliations from the reported 2021 Sales by segment. The re-presented Sales information forms thenewbasis for Guidance for 2022. The Guidance ranges above are maintained following this segmentalre-presentation. | | | As reported | | | Reclassification | | Re-presented | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | | Year ended 31 December 2021 | | | | £m | | £m | | £m | | | Electronic Systems | | 4,491 – 4,491 | | | | | | | | Platforms & Services (US) | | 3,395 – 3,395 | | | | | | | | Air | | 8,321 (872) 7,4 49 | | | | | | | | Maritime | | 3,416 753 4,169 | | | | | | | | Cyber & Intelligence | | 1,752 171 1,923 | | | | | | | HQ/intra-group | | | | (65) (52) (117) | | | | | Group 21,310 – 21,310 BAE Systems plc Annual Report 2021 77 Strategic report ## Financial glossary ## We monitor the underlying financial performance of the Group using alternative performance ## measures (APMs). These measures are not defined in International Financial Reporting Standards ## (IFRS) and, therefore, are considered to be non-GAAP (Generally Accepted Accounting Principles) ## measures. Accordingly, the relevant IFRS measures are also presented where appropriate. The Group uses these APMs as a mechanism TheAPMs are alsoused to provide theusers to enhance their understanding to support year-on-year business performance information in line with the expectations ofhow the business has performed within and cash generation comparisons, and to ofinvestors, and when setting guidance the year, and do not consider them to enhance management’s planning and decision onexpected future business performance. bemore important than, or superior to, making on the allocation of resources. The Group presents these measures to their equivalent IFRS measures. Closest IFRS measure and Measure Definition Purpose reconciliation ### Financial performance measures as defined by the Group Sales Revenue plus the Group’s share of revenue of equity accounted investments, Enables management to Page 70 Revenue excluding subsidiaries’ revenue from equity accounted investments. monitorthe revenue of both theGroup’s own subsidiaries aswell as its strategically important equity accounted investments, to ensure programme performance isunderstood and in line withexpectations. 1 Page 70 Underlying EBIT Operating profit excluding amortisation of programme, customer-related Provides a measure of operating Operating profit and other intangible assets (see note 8), impairment of intangible assets, profitability, excluding one-off finance costsand taxation expense of equity accounted investments (EBIT) events, to enable management 2 and non-recurring items . The exclusion of amortisation of acquisition- tomonitor the performance of related intangible assets is to allow consistent comparability internally and recurring operations over time, externally between our businesses, regardless ofwhether they have been and which is comparable across grown organically or via acquisition. the Group. Return on sales Underlying EBIT as a percentage of sales. Provides a measure of operating Page 70 Return on profitability, excluding one-off revenue events, to enable management tomonitor the performance of recurring operations over time, and which is comparable across the Group. Underlying earnings Profit for the period attributable to shareholders, excluding post-tax Provides a measure of the Page 71 Basic earnings pershare impactof amortisation of programme, customer-related and other Group’sunderlying performance, per share intangible assets, impairment of intangible assets, non-cash finance which enables management to movements on pensions and financial derivatives, and non-recurring compare the profitability of the 2 items attributable to shareholders, being underlying earnings, divided Group’s recurring operations bynumber of shares as defined for Basic EPS in accordance with overtime. IAS33Earnings per Share. Underlying interest Net finance costs for the Group and its share of equity accounted Provides a measure of finance Page 70 Net finance investments, excluding net interest expense on post-employment benefit costs associated with the costs obligations and fair value and foreign exchange adjustments onfinancial operational borrowings of instruments and investments. theGroup that is comparable overtime. Underlying effective Taxation expense for the Group and its share of equity accounted investments, Provides a measure of taxation Page 215 Taxation taxrate excluding any one-off tax benefit/expense, as a percentage of adjusted profit forthe Group, excluding expense before taxation, being Profit before taxplus taxation expense of equity one-offitems, that is 2 accounted investments, adjusted for non-recurring items . comparableover time. Operating business Net cash flow from operating activities excluding taxation and including net Provides a measure of cash Page 72 Net cash flow cashflow capital expenditure and lease principal amounts, financial investment and generated by the Group’s from operating dividends from equity accounted investments. operations, to service debt and activities meet tax obligations, and in turn available for use in line with the Group’s capital allocation policy. 78 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance Closest IFRS measure and Measure Definition Purpose reconciliation ### Financial performance measures as defined by the Group continued 1 Page 72 Free cash flow Operating business cash flow less interest paid (net) and taxation. Provides a measure of cash Net cash flow generated by the Group’s from operating operations after servicing debt activities and tax obligations, available foruse in line with the Group’s capital allocation policy. Net debt (excluding Cash and cash equivalents, less loans and overdrafts (including debt-related Allows management to n/a lease liabilities) derivative financial instruments). Net debt does not include lease liabilities. monitorindebtedness of the Group, to ensure the Group’s capital structure is appropriate and capital allocation policy decisions are suitably informed. Order intake Funded orders received from customers including the Group’s share oforder Allows management to n/a intake of equity accounted investments. monitorthe order intake of theGroup’s own subsidiaries as well as its strategically important equity accounted investments, providing insight into future years’sales performance. Order backlog Funded and unfunded unexecuted customer orders including the Group’s Supports future years’ sales Page 210 Order book share of order backlog of equity accounted investments. Unfunded orders performance of subsidiaries and include the elements of US multi-year contracts forwhich funding has not equity accounted investments. been authorised by the customer. Measure Definition ### Financial performance measures derived from IFRS Revenue Income derived from the provision of goods and services by the Company and its subsidiary undertakings. Operating profit Profit for the year before finance costs and taxation expense. This measure includes finance costs andtaxation expense of equity accounted investments. Return on revenue Operating profit as a percentage of revenue. Basic earnings per share Basic earnings per share in accordance with International Accounting Standard 33 Earnings per Share. Net cash flow from operating activities Net cash flow from operating activities in accordance with International Accounting Standard 7 Statement of Cash Flows. Order book The transaction price allocated to unsatisfied and partially satisfied performance obligations as defined byIFRS 15 Revenue from Contracts with Customers. Net post-employment benefits deficit Net International Accounting Standard 19 Employee Benefits deficit, excluding amounts allocated to equity accounted investments. Dividend per share Interim dividends paid and final dividend proposed per share. 1. With effect from 2021, the Group adopted the underlying EBIT profitability 2. Non-recurring items are items of financial performance which have been measure, to include charges relating to software and development intangible determined by management as being material by their size or incidence and not amortisation, in place of the previously reported underlying EBITA measure, as relevant to an understanding of the Group’s underlying business performance. itreflects a better measure of underlying profitability, by including amortisation The Group’s definition of non-recurring items includes profit or loss on business of software and development intangibles as these charges are viewed as a transactions, the impact of substantively enacted tax rate changes, and costs recurring operational cost for the business. Underlying earnings per share has incurred which are one-off in nature, for example non-routine costs or income also been recalculated to ensure consistency with the updated operational relating to post-retirement benefit schemes, and other exceptional items which profitability measure. The underlying performance for 2020 of segments and management has determined as not being relevant to an understanding of the theGroup has been re-presented on this new basis. During 2020 the Group Group’s underlying business performance. The Group does not recognise any determined that Free cash flow was its key performance measure for utilisation non-recurring adjustments which look to normalise business performance by of cash at a Group level. The Group continues to use Operating business cash excluding the estimated impact of the COVID-19 pandemic. Note 1 Segmental flow as its key segment measure, to monitor operational cash generation. analysis and revenue recognition includes more information on those items reported as non-recurring inthe period. BAE Systems plc Annual Report 2021 79 Strategic report ### A Typhoon jet operated by ### 12Squadron, the joint Qatar-UK ### squadron, at RAF Coningsby. ### Wecontinue to deliver on our ### commitments for these ### importantcustomers. BAE Systems plc Annual Report 202180 Strategic report Financial statementsGovernance ## Segmental review ## The Group reports its performance ## through six reporting segments. ### Financial performance measures 1 As defined by the Group Derived from IFRS Net cash | | | | | | | Operating | | | | | | | | | | | | | flow from | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | Underlying | | Return | | business | | Order | | Order | | | | Operating | | | Return | | operating | | Order | | | | | | | | | | | 2 | | 2 | | | | | | | | | | | | | Sales | | EBIT | on sales | | cash flow | | intake | | backlog | | Revenue | | | profit | on revenue | | | activities | | book | | Year ended 31 December 2021 | £m | | £m | | % | | £m | £m | | £bn | | | £m | | £m | | | % | | £m | £bn | KPI KPI KPI KPI Page 82 Electronic Systems 4,491 766 17.1 774 4,923 7.2 4,491 715 15.9 951 5.7 Page 86 Platforms & Services (US) 3,395 259 7.6 287 3,236 5.6 3,318 252 7.6 351 5.3 Page 90 Air 8,321 856 10.3 628 7,186 20.3 6,913 930 13.5 743 14.7 Page 94 Maritime 3,416 288 8.4 321 4,336 9.9 3,340 289 8.7 457 9.4 Page 98 Cyber & Intelligence 1,752 156 8.9 173 1,817 1.6 1,752 152 8.7 202 1.0 3 HQ 307 (120) 139 320 – 36 51 (23) – Deduct Intra-group (372) (360) (0.6) (329) (0.6) 4 Deduct Taxation (234) 5 Total 21,310 2,205 10.3 2,322 21,458 44.0 19,521 2,389 12.2 2,447 35.5 We use financial performance measures as defined by the Group to monitor the underlying financial performance of the Group’s reporting segments, and the definitions and purposes of these alternative performance measures are provided in the Financial glossary on page 78. Reconciliations from these 1 measures to the financial performance measures derived from IFRS are provided in the Group financial review on pages 68 to 75. Reconciliations by reporting segment for revenue and operating profit are included in note 1 to the Group accounts (see page 206) and for net cash flow from operating activities in note 27 to the Group accounts (see page 257). 1. International Financial Reporting Standards. 2. Including share of equity accounted investments. 3. HQ comprises the Group’s head office activities, together with a 49% interest in Air Astana. 4. Taxation is managed on a Group-wide basis. 5. At a Group level, the key cash flow metric is Free cash flow (see Financial glossary on page 78). In2021 Free cash flow was £1,864m (2020 £367m). BAE Systems plc Annual Report 2021 81 Strategic report ## Electronic Systems ## Segmental review continued ## Electronic Systems comprises the US- and UK-based ## electronics activities, including electronic warfare systems, ## navigation systems, electro-optical sensors, military and ## commercial digital engine and flight controls, precision guidance ## and seeker solutions, next-generation military communications ## systems and data links, persistent surveillance capabilities, ## spaceelectronics and electric drive propulsion systems. | Electronic Combat Solutions designs, | C4ISR Systems provides actionable | | --- | --- | | builds and supports integrated electronic | intelligence through innovative technical | | warfare systems for platform prime and | solutions for airborne persistent surveillance, | | government customers and is an affordable | identification systems, signals intelligence, | | and trusted mission systems provider | underwater and surface warfare solutions, | | forallthree electronic warfare missions: | and space resiliency products. | electronic attack; electronic protection; Controls & Avionics Solutions develops andelectronicsupport. and produces electronics for military and Countermeasure & Electromagnetic commercial aircraft, including fly-by-wire Attack Solutions provides next-generation flight controls, full authority digital engine threat detection, countermeasure, and controls, cabin management systems and attack solutions that deliver full-spectrum mission computers. electronic warfare capabilities to enhance Power & Propulsion Solutions delivers mission survivability. propulsion and power management Precision Strike & Sensing Solutions performance with innovative electrification designs and manufactures state-of-the-art products and solutions that advance vehicle systems and technology that enable mobility, efficiency and capability. ourcustomers to execute their precision strikemissions. Sales by domain Sales by line of business Sales analysis: Defence and commercial (%) (%) (%) F C B AB E A D B A C | A Air 87% | A Electronic Combat 25% | A Defence 87% | | --- | --- | --- | | B Maritime 2% | B C4ISR Systems 24% | B Commercial 13% | | C Land 11% | C Precision Strike & Sensing 21% | | D Countermeasure & Electromagnetic Attack 14% E Controls & Avionics 12% F Power & Propulsion 4% 82 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ## 16,400 £4,491m Page 78 1 Employees Sales Alternative performance measure definitions > In our Electrification Lab, we are advancing sustainable vehicle mobility, efficiency and capabilities across urban transit, maritime and military markets. > Our adaptive Signals Intelligence, or SIGINT, products are open architecture and software defined, allowing the warfighter to rapidly address emerging and dynamic threats. ### Operational and strategic key points Financial performance 3 | – Cumulatively more than 1,000 | Financial performance measures | – Sales grew by 5% | with growth | | --- | --- | --- | --- | | electronicwarfare systems delivered | asdefined by the Group | fromtheElectronic Combat Solutions | | | onF-35 programme. | | andPrecision Strike & Sensing | | 2021 2020 Solutionsbusinesses. – Limited Interim Missile Warning System | | Sales | KPI | £4,491m £4,557m | | | --- | --- | --- | --- | --- | | indefinite delivery, indefinite quantity | | | | – Commercial revenues were flat as | | | Underlying EBIT | KPI | £766m £674m | | | sustainment and support contract | | | | thepandemic continued to impact. | | awarded worth $872m (£644m) | Return on sales 17.1% 14.8% | | | | – Return on sales of 17.1% on strong overtenyears. Operating business KPI £774m £580m operational performance and significant cash flow | – EPAWSS testing underway on F-15E | | | | | contribution from 2020 acquisitions. | | --- | --- | --- | --- | --- | --- | | | | 1 | KPI | | | | andF-15EX aircraft. | Order intake | | | £4,923m £4,722m | | – Increase in operating business cash 1 | | Order backlog | £7. 2bn £6.5bn | | | --- | --- | --- | --- | | – Contract received from Defense | | | flowreflected good working capital | | LogisticsAgency valued at more than | | | management and programme execution. | $640m(£473m) to deliver Increment Financial performance – Key orders secured on F-35, Precision 1 M-Code devices. 2 Strike and C4ISR programmes. measuresderivedfrom IFRS – Rising demand for low and zero | emissionvehicles in our Power | | 2021 2020 | | --- | --- | --- | | &Propulsion Solutions business. | Revenue £4,491m £4,557m | | | – Demand in our Controls & Avionics | Operating profit £715m £649m | | | Solutions commercial markets starting | Return on revenue 15.9% 14.2% | | | torecover from pandemic impacts. | Cash flow from | £951m £767m | 1. Including share of equity accounted operating activities investments. Order book £5.7bn £5.3bn 2. International Financial Reporting Standards. 3. Constant currency basis. BAE Systems plc Annual Report 2021 83 Strategic report ## Electronic Systems ## Segmental review continued ### Operational performance Countermeasure & Electromagnetic C4ISR Systems ### Attack Solutions We continue to progress our strategic ### Electronic Combat Solutions The Compass Call programme is currently integration of last year’s acquisition The F-35 Lightning II programme completed executing contracts valued at more than toadvance our presence in the deliveries for Lot 13 and has delivered a $1bn (£0.7bn), focused on the cross-decking communications marketplace, bringing cumulative total of more than 1,000 ofprime mission equipment to the new together technology in communications, electronic warfare (EW) systems. We are EC-37B aircraft while sustaining and cryptography, and navigation to compete also supporting the Block 4 modernisation upgrading the existing EC-130H fleet. and grow our portfolio in joint all-domain efforts under multiple contracts worth over Integration and test of the EC-37B mission command and control markets. We $870m (£642m), and we continue to system is ongoing, as well as a second completed a successful prototype operate under a five-year Performance- phase of testing to demonstrate the Small demonstration implementing modular Based Logistics contract to provide EW Adaptive Bank of Electronic Resources opensystem architecture for the US Army’s module availability and support for the F-35 technology on the EC-130H. The EC-37B Enduring Fleet while providing a path to sustainment programme. platform is targeted to field in 2024. support Future Vertical Lift and Ground Under contract from Boeing, we continue platforms. We have been competitively We received an indefinite delivery, todeliver our next-generation electronic down-selected for Airborne High Frequency indefinitequantity contract from the warfare Eagle Passive Active Warning Radio Modernization with an anticipated USArmy to provide lifecycle sustainment Survivability System to support the upgrade award in 2022. and technical support to the Limited Interim of the US Air Force F-15 platform and Missile Warning System programme. We successfully captured a highly competitive testing on F-15E and F-15EX test aircraft Theten-year contract has a ceiling value space technology development programme. atboth Eglin and Edwards Air Force bases. of$872m (£644m). The team will demonstrate and qualify the During 2021 BAE Systems was awarded next-generation, radiation-hardened $210m (£155m) for the low-rate initial ### Precision Strike & Sensing Solutions Application Specific Integrated Circuit (ASIC) production phase, hardware redesign for ® Library technology, and will develop the The APKWS guidance kit programme cost reduction, obsolete parts provisioning, isexecuting at full-rate production under infrastructure to offer ASIC design services. and other support requirements. | | anindefinite delivery contract, with awards | This win positions us well to continue as a | | --- | --- | --- | | We are also under contract to install | worth over $100m (£74m) received in the | leading provider in the space domain. | | theDigital Electronic Warfare System on | first half. Government qualification on | | We continue to experience steady growth in new and existing F-15 aircraft for multiple theBlock Upgrade Variant is complete, our signals intelligence portfolio. Within our international customers, including the andthe new version is approved and classified programmes, we had a successful provision of hardware and software to oncontract. The upgraded guidance kits customer design review in April leading to support the first successful flight of the arenow in production and will be delivered future system upgrades. F-15QA fighter under a Qatar Foreign to customers starting in early 2022. ### Military Sale programme. Controls & Avionics Solutions Navigation and Sensor Systems was | We continue to collaborate with | awarded a contract valued at more than | We are seeing a continued uptick in airline | | --- | --- | --- | | Boeinginthe pursuit of all F-15 EW | $325m (£240m) from the Defense Logistics | traffic and, more importantly, in business | | upgradeopportunities, both domestic | Agency to deliver Increment 1 M-Code | travel. Consequently, demand for Original | | andinternational. | devices through to 2030. An additional | Equipment Manufacturer deliveries and | | | contract option executed by the Defense | aftermarket services is showing an | We are providing Lots 2 and 3 of the Logistics Agency in November is valued improvement. Long-term fundamentals sensorhardware/software functionality for at$316m(£233m). remain strong and underpin the demand the Long Range Anti-Ship Missile (LRASM), formore than 40,000 new aircraft over and in April we received a contract totalling The Terminal High Altitude Area Defense thenext two decades. We also see a trend $117m (£86m) from Lockheed Martin for (THAAD) seeker programme is executing towards more electric aircraft, specifically LRASM sensor production Lots 4 and 5. atfull-rate production levels, providing inthe emerging advanced air mobility Weare also executing Diminishing Material critical targeting technology that helps segment, for which the business is Sources contracts for the next configuration toprotect the US and its allies from ballistic developing energy management and of LRASM. missiles. The programme is currently powerconversion systems. working to design and manufacture Due to the sensitive nature of electronic next-generation THAAD infrared seekers The business continues to develop the combat systems and technology, many valued at $150m (£111m). integrated flight control electronics and ofour programmes are classified. These remote electronic units for the new Boeing include our work as a world leader in On 1 April, we completed the sale of 777X aircraft family. The flight control electronic warfare providing next- BAESystems Rokar International Ltd., an system is performing as expected during generation defence technologies. international defence electronics company, flight testing, and we continue to incorporate to Elbit Systems for approximately $31m software updates and conduct systems (£22m). We continue to work with Rokar verification testing. asan important supplier under licences andother agreements. 84 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance Our engine control products, offered funded programme. The objective of this We are expanding our clean energy through FADEC International (our joint programme is to develop autonomous footprint in the maritime domain, receiving venture with Safran Electronics & Defense) technologies and mission capabilities multiple contracts to deliver low and zero and FADEC Alliance (a joint venture forUSmilitary platforms. emission passenger transport and research between GE Aviation and FADEC vessels. We are taking hydrogen fuel cells to ### Power & Propulsion Solutions International), continue to perform well the waterways, with Switch Maritime’s Sea ® | across our entire portfolio. The LEAP | Despite the impacts on travel from the | Change undergoing sea trials using our | | --- | --- | --- | | FADEC family achieved a major milestone, | pandemic, the demand for low and zero | electric drive propulsion system. In addition, | | delivering the 10,000th unit, making it our | emission vehicles is rising as air quality and | we secured an opportunity to collaborate | | fastest ramp-to-rate engine control product. | climate change ascend the global agenda. | with other maritime industry leaders to | | On the military side, the GE T901 FADEC | In addition to existing low emission electric | demonstrate our proven maritime | | isunder development, the T700 engine | hybrid and zero emission battery electric | propulsion solutions for use on the River | | replacement for the UH-60 Black Hawk and | options, BAE Systems now offers a hydrogen | Thames in London. In the air domain, we | | AH-64 Apache along with the US Army’s | fuel cell electric propulsion system in | continue to progress technologies that will | | Future Attack Reconnaissance Aircraft. | collaboration with Plug Power, Inc. | enable lighter weight, cost-competitive | energy storage solutions for hybrid engines Deliveries of the F-35 vehicle management Hybrid bus procurements continue in in aircraft. | computer and active inceptor systems | citiessuch as Namur, Belgium and Boston, | | | --- | --- | --- | | havesuccessfully ramped up, and we are | Massachusetts, in the US, and we anticipate | | | enabling the first US Depot stand-up | large procurements in Philadelphia, | | | scheduled for 2022. Development of the | Pennsylvania and Mississauga in Canada. | Looking forward | | advanced vehicle control system for the | Bus manufacturer Nova Bus has successfully | | Forward-looking information for the UKDreadnought submarine programme integrated our Gen3 electric drive system to Electronic Systems reporting segment remains on plan. power its new LFSe+ battery electric buses isprovided later in this report. and has sold these electric buses into ten We continue to progress and mature our transit properties, including San Francisco Page 102 autonomous control technologies through Municipal Transportation Authority, which Segmental looking forward aseries of successful crewed-uncrewed will begin to transition its fleet from BAE teaming flight test events, including a recently Systems-supplied electric hybrid systems to successful capstone flight demonstration our Gen3fully electric drive system. event, on a US Department of Defense ### Our 2-Color Advanced Warning System developed under the Limited Interim ### Missile Warning System programme builds upon ourexperience in fielding ### systems for the complex rotary-wing environment. More online baesystems.com BAE Systems plc Annual Report 2021 85 Strategic report ## Platforms & Services ( US ) ## Segmental review continued ## Platforms & Services ( US ) , with operations in the US, UK ## andSweden, manufactures and upgrades combat vehicles, ## weapons and munitions, and delivers services and sustainment ## activities, including naval ship repair, and the management ## andoperation of government-owned munitions facilities. Combat Mission Systems focuses on BAE Systems Hägglunds focuses on aportfolio oftracked combat vehicles, thetracked vehicle market for Swedish amphibious vehicles, protection systems, andinternational customers. naval weapons, artillery, advanced BAE Systems Bofors provides weaponsand precision munitions for the advancedland and maritime weapons USmilitary and international customers. andprecision-guided munitions. Ordnance Systems is the operator Weapon Systems UK is a provider oftheUS Army’s Holston and Radford ofland-based artillery systems sustainment facilitiesunder government-owned, and services, primarily for the M777 contractor-operated arrangements, and towedultra-lightweight howitzer. focuses on high explosives, propellants andfacility modernisation. FNSS, the Turkish land systems business inwhich BAE Systems holds a 49% US Ship Repair is a major provider of interest,produces and upgrades tracked non-nuclear ship repair, modernisation, andwheeledmilitary vehicles for Turkish overhaul and conversions to the US Navy, andinternational customers. government and commercial maritime customers. It has three operational sites intheUS located on the Atlantic and Pacificcoasts. Sales by domain Sales by line of business Sales analysis: Platforms and services (%) (%) (%) F G E D A B A C A B C B | A Air 1% | A Combat Mission Systems 51% | A Platforms 47% | | --- | --- | --- | | B Maritime 32% | B Ordnance Systems 14% | B Services 53% | | C Land 67% | C US Ship Repair 20% | | D BAE Systems Hägglunds 6% E BAE Systems Bofors 5% F Weapon Systems UK 2% G FNSS 2% 86 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ## 12,300 £3,395m Page 78 1 Employees Sales Alternative performance measure definitions > Photo: US Navy Our Ship Repair team received a contract during the year for work onthe USS Makin Island in our SanDiego shipyard. > The Combat Mission Systems team delivered the 300th vehicle set of M109A7 self-propelled howitzers in2021. ### Operational and strategic key points Financial performance 3 | – Selected to participate in the design concept | Financial performance measures | – Sales grew by 3% | on higher combat | | --- | --- | --- | --- | | phase for the US Army’s Optionally | asdefined by the Group | vehicle deliveries and ramp up of CV90 | | | Manned Fighting Vehicle programme. | | upgrade programmes. | | 2021 2020 | – Consistent deliveries of the M109A7 | | | | – Return on sales grew by more than | | --- | --- | --- | --- | --- | | | Sales | KPI | £3,395m £3,503m | | | Self-Propelled Howitzer enabled the | | | | 200bps with continued recovery and | | | Underlying EBIT | KPI | £259m £190m | | | programme to surpass 350 cumulative | | | | operational improvement in Combat | | system deliveries. | Return on sales 7.6% 5.4% | | | Mission Systems and Ship Repair. | | | Operating business | KPI | £287m £382m | | | – Received a $600m (£443m) sustainment | | | | – Operating business cash flow was | cash flow | and technical support services contract | | | | | loweras 2020 benefited from pandemic- | | --- | --- | --- | --- | --- | --- | | | | 1 | KPI | | | | for Armored Multi-Purpose Vehicle, | Order intake | | | £3,236m £4,137m | related customer actions and advances | 1 andAMPV deliveries continued against Order backlog £5.6bn £6.1bn onexports. the rebaselined customer schedule. – Multiple combat vehicle programme – Amphibious Combat Vehicle deliveries orders of $2.7bn (£2.0bn) and almost Financial performance against LRIP and design development 2 $700m (£517m) of new work in measuresderivedfrom IFRS | havebegun on mission variants. | | | ShipRepair. | | --- | --- | --- | --- | | – Contract received worth | | 2021 2020 | | | approximately$200m (£148m) | Revenue £3,318m £3,399m | | | | fromSweden for 127 BvS10s. | Operating profit £252m £183m | | | | – Contract received exceeding $500m | Return on revenue 7.6% 5.4% | | | | (£369m) for mid-life upgrades of | Cash flow from | £351m £458m | | | DutchCV90s. | operating activities | | | | – US Ship Repair was significantly | Order book £5.3bn £5.6bn | | | impactedby the pandemic, but has seensome recent signs of recovery. – Ordnance Systems awarded additional contracts for modernisation projects 1. Including share of equity accounted investments. atHolston. 2. International Financial Reporting Standards. 3. Constant currency basis. BAE Systems plc Annual Report 2021 87 Strategic report ## Platforms & Services ( US ) ## Segmental review continued ### M88A2HERCULES configuration and US Ship Repair ### Operational performance developing the next-generation M88A3 The US Ship Repair business continues to ### Combat Mission Systems configuration to restore single-vehicle conduct modernisation and maintenance Combat Mission Systems continues to recovery capability. In December we activities for the US Navy’s non-nuclear makeprogress towards achieving consistent receiveda$79m (£58m) contract to fleet. Our shipyards and programmes were production throughput, with volumes at a deliverthe first M88A3 prototypes. significantly impacted by the COVID-19 heightened level across multiple programmes. In July, we were selected to participate pandemic, though recent trends show a Throughout the period, the team has inthe design concept phase for the lessening of those impacts, coupled with worked closely with customers to address USArmy’s Optionally Manned Fighting higher than usual levels of customer-added pandemic-related disruptions and schedule Vehicle programme. work to existing contracts. Our investments impacts. Investments in facilities and new in operational excellence and additional manufacturing technologies, including We are producing Mk 41 Vertical resources are delivering benefits as automation and robotic welding, are LaunchingSystem (VLS) missile canisters weaddress several challenged ship delivering positive returns, and we look to forthe USNavy under awards totalling modernisation programmes and work leverage these process improvements to $350m (£258m), with a total potential torecover from pandemic and other benefit our performance as we move to full valueof more than $695m (£513m) if all operational disruptions. rate production across a number of platforms. options are exercised. In April, we successfully competed for a $164m (£121m), five-year During the year, we received contracts with We continue to deliver Amphibious contract to remain the Navy’s design agent a cumulative value of $651m (£481m) for CombatVehicles (ACVs) to the US Marine for missile canisters and themechanical maintenance and modernisation, including Corps under low-rate initial production portion of the VLS. on the USS Detroit, USS Minneapolis-St. Paul, contracts totalling approximately $600m USS St. Louis and USS Winston S. Churchill in (£443m) for 116 vehicles, and two full-rate Under 2019 and 2020 contract our Jacksonville yard; the USS Makin Island, production contracts for an additional modifications, we are working to deliver USS Manchester, USS Russell and USS San 105vehicles at a value of $552m (£408m). Mk45 Mod 4 gun systems to the US Navy. Diego in our San Diego shipyard; and the Design and development has begun on new In October, we received a $26m (£19m) USS Mitscher and post-construction work ACV mission variants to include integrating contract to provide 57mm Mk110 naval on three LPD 17 class ships, starting with a 30mm unmanned gun system for the gunsystems for the Navy’s new USS Fort Lauderdale in our Norfolk shipyard. ACV-30 variant and studying reconnaissance Constellation class frigates and Coast ### capabilities for the ACV. GuardArgus class patrol cutters. In BAE Systems Hägglunds December we received a $24m (£18m) On the US Army’s Armored Multi-Purpose We are executing on a contract with contract to deliver Mk38 Mod 3 25mm Vehicle (AMPV) programme, we are working theNetherlands to upgrade and extend machine gun systems designed to counter under production contracts worth $1.3bn thelife of its CV9035 fleet, including the unmanned aerial gun systems to the Navy. | (£1.0bn). Deliveries of the five variants | | integration of Elbit Systems’ Iron Fist | | --- | --- | --- | | continued this year according to the | Deliveries continue on a contract to provide | ActiveProtection System and an anti-tank | | rebaselined customer schedule, which | 37 Virginia Payload Module tubes for the | guided-missile system. Under a 2020 | | wascontractually agreed with the Army in | USNavy’s Block V Virginia Class submarines. | contract to convert the Dutch fleet of | | December. In July we also received a contract | | CV90s to rubber band track, we delivered | | | Ordnance Systems | the first vehicle on time, cost and quality | worth up to $600m (£443m) for AMPV sustainment and technical support services. We continue to operate and modernise the in2021. A new contract exceeding $500m US Army’s Radford and Holston ammunition (£369m) for mid-life upgrades was received Progress continues on the M109A7 plants under a total of $1.7bn (£1.3bn) in2021. programme under cumulative low-rate initial inmodernisation contracts. The Army production totalling approximately $1.5bn Work is progressing to refurbish the hasawarded a two-year extension for (£1.2bn) for204 vehicle sets. We received Swedish CV90 fleet, and deliveries of Radford operations as we make progress a$339m (£250m) full-rate production 40 Mjölner mortar systems were finalised towards a cumulative five-year extension contract for 48vehicle sets in 2020. In the on time, at cost and quality. forRadford and a competition for the second half of the year, we received early operation of Holston. Under a 2020 contract, we are extending order material awards totalling $97m the expected life of 186 Swiss Army CV90s (£72m) to support further production. At Holston, modernisation activities to 2040. Norway awarded us a contract continue, including the construction of Work to upgrade Bradley vehicles to the A4 exceeding $50m (£37m) in February for aWeak Acetic Acid Recovery Plant, multiple configuration continues. Following several anadditional 20 vehicles. We continue to contracts for a natural gas-fired steam modifications, the contract is valued at pursue the Czech Republic’s procurement facility, a wastewater management $809m (£597m) for459 vehicles and spares. for new fighting vehicles. facility,and the design, construction | We are executing on a $32m (£24m) | andcommissioning of new production | We received a contract worth approximately | | --- | --- | --- | | prototype contract received last year | facilities. Contracts totalling $372m (£275m) | $200m (£148m) from Sweden for | | fromthe US Army’s Rapid Capabilities | were awarded inthe year for energetics | 127BvS10s. Our Beowulf unarmoured | | andCritical Technologies Office to | facilities at Holstonin continuation of the | variant was selected along with a | | integratea hybrid-electric drive system | Army’s $1bn(£0.7bn) investment to increase | competitor to participate in trials this year | | ontoBradley Fighting Vehicles. | production capabilities. | for the US Army’s Cold Weather All-Terrain | Vehicle programme. | We continue to produce and sustain the | At Radford, construction of a modern | | | --- | --- | --- | | USArmy’s M88 recovery vehicles under | nitrocellulose facility has been completed, | Additionally, we received a contract from | | previously awarded contracts, upgrading | and the facility is in the commissioning | the French Army to sustain and maintain | | 43vehicles from the M88A1 tothe | andproduct qualification phase. | readiness of its BvS10 fleet. | 88 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### BAE Systems Bofors FNSS ### Looking forward We continue to deliver on Swedish and FNSS, our land systems joint venture Forward-looking information for the USArmy contracts for 155mm BONUS basedin Turkey, continues to produce Platforms & Services (US) reporting ammunition, including a third order in 8x8wheeled armoured vehicles for the segment isprovided later in this report. October. The 24 additional ARCHER systems Royal Malaysian Army. Production has for Sweden are nearing completion, and started on medium-weight tanks for Page 102 ARCHER successfully demonstrated its delivery to Indonesia, and work has Segmental looking forward capabilities during a US Army evaluation. startedfor specialist engineering vehicles forthe Philippines. We are under multiple export contracts | todeliver 40Mk4 and 57Mk3 naval gun | Multiple contracts for the Turkish Armed | | --- | --- | | systems, including a recent order for | Forces worth in excess of €800m (£672m) | | five57Mk3s and ten 40Mk4s for the | areprogressing. These include contracts | | UKRoyal Navy’s Type 31 frigates. We are | forair defence vehicles, assault amphibious | | also delivering 57mm (Mk110) gun systems | vehicles, and special purpose 8x8 and | | to the US Navy and Coast Guard. In | 6x6vehicles. In September a contract | | February, we were selected to provide | extension was signed for a further 84 | | 1240Mk4s to the Belgian and Dutch | anti-tank vehicles in addition to the | | naviesin a joint procurement. | 260already delivered or in production. | Work has also started on a programme to ### Weapon Systems UK modernise 133 armoured combat vehicles Production of 145 M777s for the Indian for the Turkish Armed Forces. Army continues under a $542m (£400m) Foreign Military Sales contract. We proposed plans to cease M777 manufacturing operations atour Barrow-in-Furness site dueto lower projected workload. ### Beowulf demonstrated ### itscapabilities to the ### USArmy under its ### ColdWeather All-Terrain ### Vehicle programme. More online baesystems.com BAE Systems plc Annual Report 2021 89 Strategic report ## Air ## Segmental review continued ## Air comprises the Group’s UK-based air activities for European andInternational ## Markets, US Programmes, and development ofFuture Combat Air Systems, ## alongside its businesses in SaudiArabia and Australia, together with its 37.5% interest ## intheEuropean MBDA joint venture. | Our UK-based business includes | In Australia, the business primarily delivers | | --- | --- | | UKandinternational programmes for | upgrade and support programmes for | | theproduction of Typhooncombat and | customers in the defence and commercial | | Hawk trainer aircraft,support, training | sectors across the air, maritime and land | | andupgrades forTyphoon and Hawk, | domains. The business is also building | | support and upgrades for Tornado, and | theHunter Class nine-ship Future Frigate | | development ofnext-generation combat | programme. Services contracts include the | | airtechnologies and defence information | provision of sustainment, training solutions | | systems, as well asthe UK-based F-35 | and upgrades. | Lightning II manufacture, engineering MBDA is a leading global prime contractor development andsupport activity. ofmissiles and missile systems across the air, In Saudi Arabia, the business provides maritime and land domains. operational capability support to the country’sair and naval forces through UK/Saudi government-to-government programmes. The Saudi British Defence Co-operation Programme and Salam Typhoon project provide for multi-year contracts between the governments. Sales by line of business Sales analysis: Platforms and services (%) (%) F E A D AB B C A European and International Markets 31% A Platforms 53% B US Programmes 12% B Services 47% C Saudi Arabia 29% D Australia 10% E MBDA 16% F FCAS 2% 90 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ## 29,700 £8,321m Page 78 1 Employees Sales Alternative performance measure definitions > An F-35 aircraft on the flight deck of HMS Queen Elizabeth for sea training. > A concept model of Tempest, ourFuture Combat Air System. ### Operational and strategic key points Financial performance 3 | – Qatar Typhoon and Hawk programme is | Financial performance measures | – Sales growth of nearly 6% | , driven | | --- | --- | --- | --- | | progressing well, with first Qatar Typhoon | asdefined by the Group | byF-35, Typhoon support activity, | | | flight achieved in November and deliveries | | continued ramp in production on | | 2021 2020 on schedule to commence in2022. Qatarprogrammes, commencement Sales KPI £8,321m £7,910 m ofGerman Typhoon programme – F-35 rear fuselage production reached Underlying EBIT KPI £856m £909m andMBDA volumes. fullrate levels, with 151 assemblies completed in the year. Return on sales 10.3% 11.5% – Return on sales of 10.3% delivered Operating business KPI £628m £718m bygood operational performance, with – Production progressing to plan on the cash flow increased R&D on Tempest programme German Typhoon programme. 1 KPI and maturity mix of projects driving the Order intake £7,186m £6,494m – Initial entry into service of the future 1 margin reduction compared to 2020. Order backlog £20.3bn £22.5bn electronically scanned European – Operating business cash flow reflects CommonRadar Solution was achieved some utilisation of advances and timing inDecember. Financial performance on supplier spend. – Tempest next-generation Future 2 measuresderivedfrom IFRS – Orders included initial Tempest Concept CombatAir System programme continues 2021 2020 &Assessment phase, Typhoon upgrades, to progress well, with initial Concept Revenue £6,913m £6,593m further F-35 awards, strong MBDA &Assessment Phase contract secured. demand and Hawk support contract – Air sector continues to work closely with Operating profit £930m £861m renewal in Australia. | industry partners and the UK government | Return on revenue 13.5% 13.1% | | | --- | --- | --- | | to continue to fulfil contractual support | Cash flow from | £743m £917m | | arrangements in Saudi Arabia. | operating activities | | | – Australia Hunter Class Frigate | Order book £14.7bn £16.5bn | | programmecontinues through prototyping, with good engagement withthe Commonwealth to agree revised 1. Including share of equity accounted schedule for production to commence. investments. – MBDA won several export orders on 2. International Financial Reporting Standards. airplatforms. 3. Constant currency basis. BAE Systems plc Annual Report 2021 91 Strategic report ## Air ## Segmental review continued ### Future Combat Air System The Group is reliant on the continued ### Operational performance approval of export licences by a number of The Tempest technology maturation ### European and International Markets governments in order to continue to support programme is progressing well. | Activity on the 24 Typhoon and nine Hawk | | programme operations in the Kingdom of | | --- | --- | --- | | aircraft and associated support and training | During the year, the Group secured an | Saudi Arabia. We are working closely with | | contract for the State of Qatar is progressing | initial£250m order for the Future Combat | industry partners and the UK government | | well. The first five Hawk aircraft have | Air System Concept & Assessment Phase. | to continue to fulfil our contractual support | | beenaccepted by the customer and entered | Working with industry partners and the | arrangements in the Kingdom. | | into service at RAF Leeming, in line with | Ministry of Defence, the contract will enable | | BAE Systems continues to perform theagreement to base the Qatari Hawk development of a range of digital concepts, againstthe contract secured in 2018 aircraft in the UK. A Qatar Typhoon aircraft embedding new tools and techniques to toprovide Typhoon support services to completed its first flight in November, in design, evaluate and shape the final design theRoyal Saudi Air Force through to the advance of Typhoon deliveries commencing and capability requirements of Tempest. end of 2022. Through this contract, the in 2022. The Defence Information business is well business also supports the Industrialisation Eight deliveries of major units under positioned for future opportunities across of Defence capabilities in Saudi Arabia. theKuwait Typhoon contract, secured the multi-domain, information and digital Under the Saudi British Defence Co-operation byItalian Eurofighter partner Leonardo, areas identified in the UK Defence Programme (SBDCP) agreement, the Group were completed during the year. The five Command Paper. discharges a number of contracts, including remaining Kuwait major unit deliveries The Group continues to invest in promising support to the Tornado fleet, provision of areplanned to be completed during 2022. | | new and innovative technologies for the | officer and aircrew training and technician | | --- | --- | --- | | Production progresses to plan with ten front | future. Discussions are underway with a | training for the Royal Saudi Air Force, | | fuselages in build on the £1.3bn German | number of customers across a range of | aswell as technical training, engineering | ® | Air Force order for 38 aircraft toreplace its | potential services for the PHASA-35 | andlogistics services for the Royal Saudi | | --- | --- | --- | | original Typhoon Tranche 1 aircraft, received | solar-electric powered unmanned aircraft. | Naval Forces. | | at the end of 2020. | Development of the platform continues | | The current five-year SBDCP funding with the first stratospheric flight planned The UK Typhoon fleet continues to achieve arrangement concluded on 31 December for2022. | the contracted flying hours under its | | 2021, and agreement has been reached | | --- | --- | --- | | ten-year partnership arrangement, and | US Programmes | inprinciple with the Saudi Arabian | | support tothe Royal Air Force’s UK fleet | | government for BAE Systems to continue | F-35 rear fuselage manufacturing reached ofHawk fast jet trainer aircraft continues toprovide services for a further five years, full rate production during 2021 with 151 under aninterim agreement. The follow-on to 31 December 2026. Negotiations rear fuselage assemblies completed for the arrangement for the long-term Hawk regarding this have progressed well with contracts Lots 12, 13, 14, and 15 in line with availability is expected to be contracted initial orders received to ensure continuity customer expectations. Pricing has now inthe first half of 2022. ofactivities. Full contract award for these been agreed on Lots 15 to 17. services is planned to be concluded Initial entry into service of the export The global F-35 sustainment strategy during2022. standard electronically scanned European continues to transition towards multi-year Common Radar was achieved in December 19 of the contracted 22 Hawk aircraft service agreements. In line with this, a with delivery of the first two Kuwait assembled in-Kingdom have now been five-year contract from January 2021 Typhoon aircraft by Leonardo, and this completed and formally accepted by toDecember 2025 was awarded during capability will be extended to Qatar in 2022. theRoyal Saudi Air Force, including 14 theyear, covering the provision of National radar variants for the UK, German, duringthe year. The remaining aircraft manpower services in support of key Italian and Spanish Air Forces will continue arescheduled to be completed during sustainment activities located in both post completion of export standard radar thefirst half of 2022. theUK and the US. development activities. The UK continues We continue to review our portfolio ### tofund development activity for the future Saudi Arabia ofinterests in a number of industrial UK Typhoon weapon system and sensors, In Saudi Arabia, the In-Kingdom Industrial companies in Saudi Arabia. The Saudi as part of the Partner Nations’ commitment Participation programme continues to Arabia Military Industries purchase of to the ten-year Typhoon capability makegood progress consistent with Advanced Electronics Company completed enhancement programme. | ourlong-term strategy, as well as the | in February 2021. We continue to explore | | --- | --- | | SaudiArabian government’s National | opportunities to collaborate with key | | Transformation Plan and Vision 2030, with | localpartners, including Saudi defence | | examples of the benefits of the programme | entities, to deliver further In-Kingdom | | including our in-Kingdom employee base | Industrial Participation, in line with the | | reflecting a 75% Saudisation rate, 94% | Kingdom’s National Transformation Plan | | ofour in-Kingdom female employees | and Vision 2030. | beingSaudi nationals and the development of our footprint across seven locations, resulting in demonstrable contributions toour local communities. 92 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### Australia Research and development activity Good progress continues on several inAustralia has continued to grow, development programmes including Work on the Hunter Class Frigate withprogress made supporting both MICANext Generation, Spear Capability 3, programme continues with progress theBoeingAustralia Loyal Wingman Brimstone 3, Teseo Mk2 Evolved, Aster seenthrough prototyping where the first programme, which achieved its first Block 1 New Technology, as well as the unit has successfully validated a number flightinMarch 2021, and the Australian MHT battlefield engagement missiles ofthe new shipyard processes. Design Army assessment of autonomous M113 tobeintegrated on the Tiger Mk3 attack Separation and the Systems Definition armoured personnel carriers. helicopter and Enforcer for the German Review have both been successfully Armed Forces. achievedduring the year. Work continues ### MBDA toagree a revised schedule with the During 2021, MBDA has continued to win Commonwealth of Australia following domestic and export orders, with several ### theannouncement of an 18-month delay Looking forward key bids underway. The business is well that will maximise ship design maturity placed to benefit from defence spending Forward-looking information for the before production commences. ina number of European countries and Airreporting segment isprovided later The Jindalee Operational Radar Network International opportunities. inthis report. programme has been rebaselined and a In the year, a number of new contracts Page 103 revised contract agreed with the customer. weresigned, including the development Segmental looking forward The programme is delivering against ofthe SAMP/T NG (New Generation) thisschedule and operational support ground-based air defence system for the tothesystems continues to meet French and Italian customers, Aster air availabilityrequirements. defence missile Mid-Life Update for the | Hawk Mk127 Lead-In Fighter aircraft | UKand Italian customers, additional batches | | --- | --- | | availability continues to meet customer | ofMICA NG next-generation interception, | | expectations for Australian Defence | combat and self-defence missiles for the | | Forcepilot training. An extension of | French customer, the F-35 integration | | ourIn-Service support contract to 2031 | contract for Meteor/Spear and the | | wassigned during the year, this included | Assessment Phase contract for the Future | | acontract for the upgrade of 33 engines | Cruise/Anti-Ship Weapon (the Anglo/French | | across the Australian Hawk fleet. | cooperation programme to replace Storm | Shadow/Harpoon in the UK and SCALP/ Sustainment activity continues at our Exocet in France). In export markets, F-35South Pacific Regional Airframe Depot contracts for weapons packages in Greece, atWilliamtown, with the completion of Saudi Arabiaand Egypt were received. thefirst F-35airframe maintenance events. TheANZAC frigate upgrade programme continues to meet customer requirements. ### The T-650 concept ### vehicle, an all-electric ### ‘heavy lift’ uncrewed air ### system designed as a ### potential new solution ### todeliver cost-effective, ### sustainable rapid ### response capability. More online baesystems.com BAE Systems plc Annual Report 2021 93 Strategic report ## Maritime ## Segmental review continued ## Maritime comprises the Group’s UK-based ## maritime and land activities. | Maritime programmes include the | Land UK’s munitions business designs, | | --- | --- | | construction of seven Astute Class | develops and manufactures a comprehensive | | submarines for the Royal Navy, as well | range ofmunitions products serving a | | asthe design and production of the | number of customers including its main | | RoyalNavy’s Dreadnought Class submarine | customer, the UK Ministry of Defence. | | and Type 26 frigate. Additionally the | Rheinmetall BAE Systems Land (RBSL) – | | Maritime portfolio includes in-service | BAESystems’ joint venture with Rheinmetall | | support, including the delivery of training | – is a UK-based business specialising in | | services and management of HM Naval | thedesign, manufacture and support of | | BasePortsmouth and the design and | military vehicles used by the British Army | | manufacture of combat systems, | and international customers. Land UK also | | torpedoesand radars. | develops and manufactures cased-telescoped | weapons through its CTA International jointventure. Sales by domain Sales by line of business Sales analysis: Platforms and services (%) (%) (%) B C B A A B A A Maritime 91% A Naval Ships 42% A Platforms 68% B Land 9% B Submarines 49% B Services 32% C Land UK 9% 94 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ## 18,200 £3,416m Page 78 1 Employees Sales Alternative performance measure definitions > Early careers colleagues qualify attheSkills Development Centre inPortsmouth, Hampshire, UK. > The first of class Type 26 vessel, Glasgow, rolls out in our Govan shipyard, UK. ### Operational and strategic key points Financial performance | – Construction of first three City Class | Financial performance measures | – Sales grew by 5%, driven by | | --- | --- | --- | | Type26 frigates for the Royal Navy | asdefined by the Group | continuedramp in Dreadnought | | isnowunderway. | | andType26 activity. | 2021 2020 | – Canadian Surface Combatant programme | | | | – Return on sales of 8.4% driven | | --- | --- | --- | --- | --- | | | Sales | KPI | £3,416m £3,257m | | | entered a key design milestone in | | | | bycontinued strong operational | | | Underlying EBIT | KPI | £288m £279m | | | December, ahead of moving into the | | | | performance across highly | | nextFunctional Design phase. | Return on sales 8.4% 8.6% | | | complexprogrammes. | | | Operating business | KPI | £321m £243m | | | – Fifth Astute Class submarine, Anson, | | | | – Operating business cash flow | cash flow | launched in April, with final installation | | | | | reflectsgood programme execution | | --- | --- | --- | --- | --- | --- | | | | 1 | KPI | | | | and commissioning activities continuing | Order intake | | | £4,336m £3,772m | andworking capital management. | 1 to ready her for scheduled exit in 2022. Order backlog £9.9bn £9.1bn – Orders included ongoing Dreadnought – Construction of the first two funding, contracts under UK Ministry Dreadnought Class submarines ofDefence Future Maritime Support Financial performance continuesto advance. 2 Programme, and RBSL flow down of measuresderivedfrom IFRS workon Challenger 3 Main Battle – Contract awarded and early design and 2021 2020 Tankprogramme. concept work underway on Royal Navy’s | next generation ofsubmarines. | Revenue £3,340m £3,195m | | | --- | --- | --- | | – Contracts worth more than £1bn | Operating profit £289m £272m | | | receivedunder UK Ministry of Defence’s | Return on revenue 8.7% 8.5% | | | Future Maritime Support Programme. | Cash flow from | £457m £317m | operating activities – Maritime Services provided preparation and support capabilities to the UK’s Order book £9.4bn £8.5bn Carrier Strike Group ahead of, and during,its first operational deployment. 1. Including share of equity accounted – RBSL secured the Challenger 3 Main investments. Battle Tank upgrade contract. 2. International Financial Reporting Standards. BAE Systems plc Annual Report 2021 95 Strategic report ## Maritime ## Segmental review continued ### Operational performance Submarines Maritime Services Our Submarines business is a member Our Maritime Services business secured ### Naval Ships ofthe Dreadnought Alliance, working twoHM Naval Base Portsmouth contracts, The Type 26 programme continues to alongside the Submarine Delivery Agency Ship Engineering Management, and in progress, with construction now underway (SDA) and Rolls-Royce to deliver the ajoint venture with KBR, Hard Facilities on the first three City Class Type 26 frigates. replacement for the Royal Navy’s Vanguard Management and Alongside Services, All units of first of class, Glasgow, have Class, which carries the UK’s nuclear worthmore than £1bn under the UK completed fabrication and the forward deterrent. The value of the programme Ministry of Defence’s Future Maritime andaft blocks have now been linked as one tothe Group to date is £7.8bn, with Support Programme (FMSP). Service delivery ship. The second of class, Cardiff, now has additional contract funding of £1.9bn under these contracts came into effect on 70% of her units in construction. Belfast, received in 2021. Four Dreadnought Class 1 October and will continue for at least five third of class, entered the manufacturing submarines will be built in Barrow, with years. The KBS Maritime joint venture with phase at our Govan yard in June 2021 at a thefirst of these due to be in operational KBR was established and is delivering the ceremony led by HRH Duke of Cambridge. | | service in the early 2030s. Construction | Hard Facilities Management and Alongside | | --- | --- | --- | | The Canadian Surface Combatant | ofthe first and second submarines | Services contract. | | Programme entered its Preliminary Design | continues to advance. | | The UK’s Carrier Strike Group 2021 Review in December 2021, a key design The major programme of investment to deployment was supported from gate ahead of moving into the next redevelop the Barrow site to support the Portsmouth and in various locations Functional Design phase of the programme. delivery of Dreadnought is progressing, alongthe deployment route. BAE Systems This will achieve a design configuration for witha number of newly-constructed coordinated the support to all vessels in the modifications required to the Type 26 facilities now in operation. thegroup. In addition to deployed support core design to serve Canada’s needs. to the Mediterranean, Indian Ocean and Four Astute Class submarines have been In our Combat Systems business, the Pacific Ocean for the Carrier Strike Group, delivered to the Royal Navy, while the successful delivery of major upgrades to allfive of the Royal Navy’s Batch 2 Offshore fifth,Anson, was launched in April. Final thecombat system capabilities on board Patrol Vessels are being supported around installation and commissioning activities both HMS Queen Elizabeth and HMS Prince the globe by our teams. continue to ready her for exit, which is of Wales enabled Carrier Strike Group scheduled to take place in 2022. The In the Underwater Weapons business tasking whilst achieving 99.5% equipment remaining two submarines, Agamemnon stream, the Torpedo Repair and availability for the fleet. and Agincourt, are at an advanced stage Maintenance contract for in-service support ofconstruction at our Barrow site. to the UK’s Royal Navy continues to perform well. The £270m Spearfish torpedo upgrade The business has also commenced early programme, delivered for the UK Ministry of design and concept work on the Royal Defence and Royal Navy, continues and the Navy’s next generation of submarines, Ministry of Defence granted approval for under an £85m contract from the Ministry Defence Munitions to proceed with the build of Defence announced in September 2021. of the upgraded weapons in October. This BAE Systems will work alongside the SDA, represents a key milestone towards Rolls-Royce, Babcock and other industry concluding the development and initial partners on a new class of nuclear-powered manufacture phase of the programme. attack submarines, which will eventually | replace the Astute class. The programme | A £119m export order for our Commander | | --- | --- | | currently supports approximately 250 | land radar was secured. The development | | highly-skilled jobs. | ofa new production line at our Cowes site | isunderway to support the delivery of thiscontract. Techmodal, the applied data science consultancy we acquired in August 2020, secured a number of contracts and was selected in October as the Royal Navy’s digital services programme partner for datascience. The Maritime Services business continues tosupport a range of customer trials and experimentation programmes to develop and implement new technologies. In 2021, these have included Navy X trials of our autonomous RIB with HMS Argyll, the RoyalNavy’s submarine firing trials of theupgraded Spearfish torpedo, and the testing of enhanced radarcapabilities during the NATO Formidable Shield 21 exercise. 96 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### Land UK The programme is expected to create and sustain more than 200 skilled jobs within Following the award of the Next Generation RBSL and provide opportunities to more Munitions Solution (NGMS) contract in than 60 apprentices over the coming years. November 2020, the business enacted plans The contract will also create and sustain to ensure an effective transition between more than 450 jobs across the UK supply the current munitions supply contract and chain, helping to protect engineering and NGMS. Transition plans are progressing well manufacturing skills. and the business is on-track to meet the | jointly agreed timeline for the closure of | The Challenger 3 contract, together with | | --- | --- | | thecurrent contract. In support of the new | the Mechanised Infantry Vehicle contract, | | contract, the business has commenced a | secured at the end of 2020, will provide | | £90m programme to update and expand its | workload for the business for the next | | manufacturing equipment and infrastructure. | tenyears. | Mobilisation of the Challenger 3 contract, secured in 2021 by the RBSL joint venture, ### isprogressing well. The contract, worth Looking forward £300m to BAE Systems, will see RBSL Forward-looking information for the upgrade 148 Challenger 2 Main Battle Maritimereporting segment isprovided Tanks into the Challenger 3 configuration later inthis report. for the British Army. Page 103 Challenger 3 will be a network-enabled, Segmental looking forward digital Main Battle Tank with state-of-the- art lethality, upgraded survivability, plus world-class surveillance and target acquisition capabilities. The vehicles will be manufactured at RBSL’s Telford facility, with support from other RBSL sites near Bristol, Newcastle and Bovington. More online ### Munitions manufacturing in baesystems.com ### Glascoed, Monmouthshire, UK. BAE Systems plc Annual Report 2021 97 Strategic report ## Cyber & Intelligence ## Segmental review continued ## Cyber & Intelligence comprises the US-based Intelligence & ## Security business and UK-headquartered Applied Intelligence ## business, and covers the Group’s cyber security, secure ## government and commercial financial security activities. Intelligence & Security comprises Applied Intelligence provides data thethree US-based businesses. intelligence solutions which enable governments and commercial organisations Air & Space Force Solutions focuses to defend against national-scale threats, onprovidingthe US Air Force, US Space protect their networks and data against Forceand the combatant commands sophisticated attacks and operate withinnovative systems engineering and successfully in cyberspace. Our solutions are integration solutions to help to modernise, delivered as licensed technologies andvia maintain, test and cyber-harden aircraft, consulting and systems integrationprojects. radars, strategic missile systems, mission applications and information systems Government is focused on delivering thatdetect, deter and dissuade threats nationalsecurity and intelligence solutions tonationalsecurity. tothe UK and allied international governments. The business also delivers Integrated Defense Solutions provides enterprise-level dataand digital services the US Army and US Navy with systems toUKgovernment departments. engineering, integration, and sustainment | services for critical weapons systems, C5ISR | Financial Services delivers anti-fraud and | | --- | --- | | and cyber security that enhance mission | regulatory compliance solutions to banking | | effectiveness. Our solutions are deployed | and insurance customers across Europe, | | across platforms and networks in the air, | NorthAmerica, the Middle East, Africa | | maritime, land and cyber domains. | andAsia-Pacific. | Intelligence Solutions provides innovative mission-enabling solutions and services to intelligence and federal/civilian agencies. Sales by business Sales by line of business Sales analysis: (%) Intelligence & Security (%) Applied Intelligence (%) B A A C B B A A Applied Intelligence 29% A Air Force Solutions 25% A Government 83% B Intelligence & Security 71% B Integrated Defense Solutions 34% B Financial Services 17% C Intelligence Solutions 41% 98 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ## 9,600 £1,752m Page 78 1 Employees Sales Alternative performance measure definitions > We’re one of only a handful of companies certified by GCHQ and CPNI as quality- assured cyber incident response providers. Delivering cyber and intelligence solutions to HMG and allied nations. > Intelligence & Security is conducting integrated prototyping of modelling and simulation tools for the state-of- the-art US Marine Corps Wargaming and Analysis Center. ### Operational and strategic key points Financial performance Intelligence & Security Financial performance measures – Sales in Applied Intelligence were – US-based Intelligence & Security business asdefined by the Group stableas growth in government and continues to maintain its bid pipeline, defence businesses was offset by impact 2021 2020 perform on existing contracts and win of commercial businesses disposed of Sales KPI £1,752m £1,812m in2020. new orders. | | Underlying EBIT | KPI | £156m £135m | | | --- | --- | --- | --- | --- | | – Awarded a five-year, up to $478m (£353m) | | | | – US Intelligence & Security business saw | | Systems Engineering and Integration | Return on sales 8.9% 7.5% | | | sales growth of 3%, excluding the impact | | Support Services contract from the US | Operating business | KPI | £173m £221m | of exchange translation. | | Navy Strategic Systems Programs office. | cash flow | | | | – Return on sales expanded by 140bps as 1 KPI – Awarded classified contracts from Order intake £1,817m £1,987m both Applied Intelligence and Intelligence 1 | Department ofDefense and Intelligence | Order backlog | £1.6bn £1.7bn | & Security delivered strong programme | | --- | --- | --- | --- | | Community customers in excess of | | | performance, high utilisation levels and | | $0.8bn (£0.6bn) todeliver mission- | | | more efficient cost structures. | Financial performance enabling engineeringservices. 2 – Operating business cash flow reflects measuresderivedfrom IFRS – Agreement announced for the proposed good programme execution. acquisition of Bohemia Interactive 2021 2020 – Applied Intelligence saw high demand Simulations, a global software developer | | Revenue £1,752m £1,812m | inits government and defence business, | | | --- | --- | --- | --- | | of simulation and training solutions for | | | 3 | | | Operating profit £152m £138m | with a book-to-bill | ratio of 1.1. | allied military customers. Return on revenue 8.7% 7.6% Applied Intelligence | | Cash flow from | £202m £251m | | --- | --- | --- | | – Strong order intake and revenue growth | operating activities | | | from the government- and defence-facing | Order book £1.0bn £1.1bn | | business units. – Increasing profitability supported by strong programme execution, productivity and cost base optimisation. Financial Services’ profitability benefited from restructuring in 2020. 1. Including share of equity accounted | – Acquisition of In-Space Missions, a UK-based | investments. | | --- | --- | | satellite and satellite systems company, to | 2. International Financial Reporting Standards. | | accelerate our Space capabilities. | 3. Ratio of Order intake to Sales. | BAE Systems plc Annual Report 2021 99 Strategic report ## Cyber & Intelligence ## Segmental review continued We were awarded a five-year, Indefinite In November we announced the proposed ### Operational performance Delivery, Indefinite Quantity, contract acquisition of Bohemia Interactive ### Intelligence & Security | | worthup to $154m (£114m) to support | Simulations (BISim), a privately held global | | --- | --- | --- | | Air & Space Force Solutions | theUS Navy with rapid integration | software developer of simulation and | | | andsustainment of command, control, | training solutions for military organisations | On the US Air Force Intercontinental communications, computers, combat around the world. BISim is headquartered BallisticMissile Integration Support systems, intelligence, surveillance and inOrlando, Florida, with more than 325 Contractor (ISC) programme, we continue reconnaissance (C5ISR) systems. employees in the US, UK, Australia, the to provide programme management, Czech Republic and Slovakia. The acquisition systems engineering, integration and We also were awarded a five-year, $137m is subject to regulatory approvals and other testing, sustainment and cyber defence (£101m) US Navy contract to provide pre-closing conditions. support, with cumulative funding lifecycle sustainment of C5ISR systems, approaching the $1.1bn (£0.8bn) contractual ### including integrated product support, Applied Intelligence ceiling. We submitted a proposal for the configuration management and technical The business performed strongly in2021, recompete of the programme in January and project management. delivering revenue growth and a further 2021 for the next 18-year contract. The Intelligence Solutions increase in profitability. We have continued USgovernment advised us that it expects to see strong levels of demand for our toannounce the ISC 2.0 award in the first BAE Systems is executing on a $506m products and services, as our core quarter of 2022. As a result, the US Air (£374m) contract to provide industry-leading customers continue to invest in building Force approved a one-year ISC 1.0 contract and multi-disciplinary analytic support cyber, data, digital and analytical extension modification of $185m (£137m). capabilities supporting first responders, capabilities. This has resulted in further warfighters and policy makers. These We were awarded Delivery Order 3 valued growth in order intake, driven by our tailored analytic services span a multitude at $32m (£24m), taking our total award National Security and Defence & Space ofmission specifications and operating value to $70m (£52m) on a multi-year business units in particular. Ongoing environments. Services include, but are not Indefinite Delivery, Indefinite Quantity investment in resourcing, learning and limited to: source discovery and collection; contract to provide electronic hardware and development has supported growth in time-dominant and long-term analytic engineering services for a US government ourheadcount which, coupled with assessments; cartographic production; customer, with an expected lifecycle value stronglevels of utilisation and productivity, andmulti-media content generation. of $474m (£350m). has enabled us to drive significant revenue We are delivering a transformative software growth. Programme execution continues We were awarded Lots 15 to 19 of the delivery approach increasing the pace and tobe strong and well controlled across Network Daughter Board production on responsiveness of enabling business systems allareas supporting underlying margin theF-35 programme with Lockheed Martin, on a $108m (£80m) contract provided by growth. Operating costs have reduced valued at $42m (£31m). aUS government customer. BAE Systems is compared with the prior year as the impact Integrated Defense Solutions leveraging a user experience-driven design of a restructuring and operational efficiency methodology to understand the nuances initiative continues to deliver positive results. We were awarded a five-year, $478m ofend-user requirements and accelerating (£353m) sole-source contract to continue In September we announced the acquisition capability delivery through DevSecOps. supporting weapon systems on board of In-Space Missions, a UK-based company Additionally, BAE Systems is pioneering USOhio and UK Vanguard Class submarines, that designs, builds and operates satellites theimplementation of the Portfolio Delivery as well as future US Columbia Class and and satellite systems. This acquisition model to ensure end-to-end utility and UKDreadnought Class submarines. supports our ambition to accelerate our satisfaction across stakeholder groups. Continuing more than 30 years of strong space capabilities to include a range of Following our 2020 award of one of three satellites and systems, reflecting performance for the Naval Air Warfare Phase I contracts from the US Marine Corps government prioritisation of space to Center, we were awarded a five-year, $140m to develop a state-of-the-art wargaming defend and protect their nations, people (£103m) follow-on contract to provide system for the new Wargaming Center in and businesses in a digital world. This research and development, evaluation, Quantico, Virginia, we were subsequently acquisition and associated technological engineering, integration, testing, logistics, down-selected as the single prime developments will further help deliver alteration, installation, training and contractor in Phase II. As the Lead Systems information advantage for our customers hardware support services across a variety Integrator, we are conducting integrated inthe continued integration of land, sea, of fixed and mobile, shipboard and prototyping of modelling and simulation air,space and cyber domains. shore-based and airborne platforms. tools, developing a cloud-based We were awarded a five-year, $68m environment which will be deployed (£50m)contract to provide air traffic foroperations during Phase III. controland landing systems (ATC&LS) We have seen strong growth in our Federal platform sustainment and engineering Civilian business as we continue to execute services to develop, produce, equip, test, cyber security and cloud programmes for sustain and update key expeditionary agencies such as Federal Emergency ATCaviation systems. Management Agency, Cybersecurity and We were awarded two contracts totalling Infrastructure Security Agency and the $140m (£103m) by the Defense Logistics Department of Justice. Agency to provide preventative and corrective maintenance for Automated FuelSystems around the globe. 100 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ### Our US Digital Engineering Lab implemented ### a high-fidelity mixed reality system to ### support the Strategic Systems Program ### sustaining the Trident Submarine-Launched More online ### baesystems.com Ballistic Missile. Government Within our Defence & Space business ### unitwe are seeing increasing levels of Looking forward The National Security business continues demand due to increased levels of defence Forward-looking information for the togrow strongly supported by increasing funding and the UK Strategic Command Cyber & Intelligence reporting segment government investment in operational commitment to substantial investment in isprovided later in this report. cyberand digital transformation within data, digitisation, intelligence and cyber. theNational Security community. Key This has resulted in strong demand for Page 103 customers have continued to demonstrate Segmental looking forward oursolutions in cyber and electromagnetic their confidence in our business through activities, digital transformation and multi-year deals and frameworks that will complex communications, driving an enable us to grow and deliver capability increase in order intake and revenue for tobest support their strategic aims. The thebusiness unit. The acquisition of In-Space business continues to invest in training Missions in addition to ongoing organic anddevelopment academies in addition investment is supporting our ambition to torecruiting experienced cleared develop space capability, recognising space resourcesto drive future growth. as an area for increasing investment and The International Government business focus for customers. Resourcing and hasdelivered revenue growth driven investment in skills remains a key focus bynewwork across key accounts and todrive further growth going forward. continued positive delivery on major Financial Services programmes. Travel limitations have had | some minor impacts on delivery but these | The Financial Services business has delivered | | --- | --- | | have been largely overcome by effective | a significant improvement in profitability | | remote working and ongoing optimisation | inthe year, the result of the restructuring | | of operating costs. | activity completed in 2020. Order intake | hasgrown year-on-year boosted by large The UK Central Government business account wins in North America and Europe. hasdelivered significant revenue growth Ongoing investment in our market-leading asaresult of a number of new account NetReveal platform continues to deliver winsand ongoing involvement in a number anti-money laundering regulatory of major programmes across central compliance and anti-fraud capabilities government departments. A particularly toour global customer base. significant programme relates to the data and digital work being undertaken with theUK Home Office supporting UK Border Force in its strategy to create the most effective border in the world. BAE Systems plc Annual Report 2021 101 Strategic report ## Segmental looking forward ## BAE Systems’ reporting segments, Electronic Systems, ## Platforms & Services ( US ) , Air, Maritime and Cyber & Intelligence, ## align with the strategic direction of the Group. | | | 1 | Electronic Systems comprises the | | | --- | --- | --- | --- | --- | | 2021 Sales | | | | Platforms & Services (US), with | | | | | US-and UK-based electronics activities, | operations in the US, UK and Sweden, | | | E | | including electronic warfare systems, | manufactures and upgrades combat | A navigation systems, electro-optical vehicles, weapons and munitions, D sensors, military and commercial anddelivers services and sustainment digitalengine and flight controls, activities, including naval ship repair, precision guidance and seeker and the management and operation of B solutions,next-generation military government-owned munitions facilities. communications systems and data Combat Mission Systems is underpinned C links,persistent surveillance bya strong order backlog and incumbencies capabilities,space electronics and on key franchise programmes. These include electric drive propulsion systems. | A Electronic Systems 21% | | the US Army’s Armored Multi-Purpose | | --- | --- | --- | | B Platforms & Services (US) 16% | Electronic Systems is well positioned for | Vehicle, M109A7 self-propelled howitzer, | | C Air 39% | growth in the medium term as it continues | Bradley upgrade programmes, M88 | | D Maritime 16% | to address current and evolving US defence | HERCULES recovery vehicle, the US Marine | | E Cyber & Intelligence 8% | priority programmes from its strong | Corps’ Amphibious Combat Vehicle, as well | | | franchise positions in electronic warfare, | as the CV90 and BvS10 export programmes | | | navigation systems, precision guidance | from BAE Systems Hägglunds. FNSS | | | andseeker solutions. Electronic Systems | continues to execute on its order book of | 1 2021 Underlying EBIT hasa long-standing programme of research both Turkish and international orders. These and development. Its focus remains on long-term contracts and franchise positions E maintaining a diverse portfolio of defence make the combat vehicles business well D A and commercial products and capabilities placed for growth in the medium term. for US and international customers. The In the maritime domain, the sector has a business expects to benefit from its ability strong position on naval gun and missile to apply innovative technology solutions launch programmes and US Navy ship repair that meet defence customers’ changing C B activities where the business has invested requirements. As a result, the business incapitalised infrastructure and its facilities iswell positioned for the medium term in key home ports. The business remains withsignificant roles on F-35 Lightning II, well aligned to the US Navy’s operational A Electronic Systems 33% F-15upgrade, M-Code GPS upgrades and strategy and projected fleet increase. | B Platforms & Services (US) 11% | classified programmes, as well as with | | | | --- | --- | --- | --- | | C Air 37% | | ® | | | | specific products such as APKWS | . Over | The Group remains a leading provider of | | D Maritime 12% | thelonger term, the business is poised | | gun systems and precision strike capabilities | | E Cyber & Intelligence 7% | toleverage its technology strength in | | and in the complex ordnance manufacturing | | | emerging areas of demand such as precision | | business, continues to manage and operate | | | weaponry, space resilience, hyper-velocity | | the US Army’s Radford and Holston | | | and autonomous vehicles. With our electric | | munitions facilities. | drive propulsion capabilities we are well placed to continue to address the need for low and zero emission technology across anincreasing number of platforms. The commercial aviation market has been negatively impacted by the pandemic and whilst we are seeing a degree of recovery itisexpected to take several years to reach previous levels. The business has been scaled appropriately and Electronic Systems’ technology innovations are enabling the business to maintain its long-standing customer positions and adjust as the marketevolves. 1. The purposes and definitions of non-GAAP measures are provided in the Financial glossary onpage 78. 102 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance Page 26 Our markets Page 78 Alternative performance measure definitions Air comprises the Group’s UK-based Maritime comprises the Group’s Cyber & Intelligence comprises the airactivities for European and UK-based maritime and land activities. US-based Intelligence & Security International Markets, US Programmes, business and UK-headquartered Maritime and development of Future Combat Applied Intelligence business, and The outlook is stable based on long-term AirSystems, alongside its businesses covers the Group’s cyber security, contracted positions with a number of UK inSaudi Arabia and Australia, together securegovernment and commercial domestic and international opportunities with its 37.5% interest in the European financial security activities. tofurther this outlook. Within Submarines, MBDA joint venture. Intelligence & Security the business is executing on two long-term Future Typhoon production and support programmes. On the Astute Class The outlook for the US government sales are underpinned by existing contracts. programme, the fifth of class is undergoing servicessector is stable with the opportunity Discussions continue in relation to potential final commissioning activities and the two for modest mid-term growth, although further contract awards for Typhoon. remaining boats are in build. On the market conditions remain highly competitive Production of rear fuselage assemblies Dreadnought programme, manufacturing and continue to evolve in response to shifting forthe F-35 has reached full rate levels activities continue on the first two boats government priorities. The Intelligence andis expected to be sustained at these ofa four-boat programme. Investment &Security (I&S) business will continue current levels. The business plays a continues in the Barrow facilities in order toleverage its established market positions, significant role in the F-35 sustainment toprovide the capabilities to deliver these reputation for reliable performance and programme in support of Lockheed Martin. long-term programmes through the decade itsproven digital engineering expertise to The UK Combat Air Strategy provides and beyond. In shipbuilding, sales are support the government’s modernisation thebase to enable long-term planning underpinned by the manufacture of Type 26 initiatives. As a trusted partner, I&S is andinvestment in a key strategic part frigates. The through-life support of surface wellpositioned to meet customer ofthebusiness. ship platforms provides a sustainable business demandsfor innovative, cost-effective in technical services and mid-life upgrades. andcyber-hardened solutions to pursue In Saudi Arabia, the In-Kingdom Industrial both recompete contracts and new business Participation programme continues to make Land UK across its portfolio of sustainment, system good progress consistent with our long- Future work will be underpinned by integration and modernisation solutions term strategy, as well as the Saudi Arabian existingin-service support contracts and the formilitary, intelligence and Federal Civilian government’s National Transformation contracted workshare on the Mechanised agency customers. Planand Vision 2030. Our in-Kingdom Infantry Vehicle and Challenger 3 Main support business is expected to remain Applied Intelligence Battle Tank programmes. Munitions supply stable underpinned by long-standing continues under the Munitions Acquisition The services and products we offer in our contracts renewed every five years. | | Supply Solution partnering agreement | Government businesses ensure that we are | | --- | --- | --- | | In order to provide ongoing capability | which will be followed in 2023 by the | well placed to deliver growth as UK cyber, | | tointernational customers, the Group is | recently-agreed 15-year Next Generation | data and digital budgets increase and cyber | | reliant on the continued approval of export | Munitions Solution. | security and information advantage continue | | licences by a number of governments. | | to be an important partof a nation’s | | Thewithholding of such export licences | | security and economic prosperity. | may have an adverse effect on the Group’s We continue to invest in the Financial provision of capability to the Kingdom of Servicesdivision to deliver growth given Saudi Arabia and the Group will continue theongoing market demand for anti-fraud towork closely with the UK government to and regulatory compliance solutions. manage the impact of any such occurrence. Effective from 2022, a new operating The Australian business has long-term business, BAE Systems Digital Intelligence, sustainment and upgrade activities in has been formed, bringing together many maritime, air, wide-area surveillance, missile of our world-leading digital transformation, defence and electronic systems. It has cyber security, complex data analysis, and expanded into ship design and production on communication and information capabilities the Hunter Class Frigate programme, which from across the Group. This includes the will drive growth in the coming years and is whole of the Applied Intelligence business. pursuing a number of further opportunities. This activity will enable even closer MBDA has a strong order backlog collaboration across the Group to help supporting future years’ sales. Development ourcustomers operate successfully, safely programmes continue to improve the and efficiently in the digital world, and in long-term capabilities of the business in time bring a greater range of capabilities air,land and sea domains. toour customers. BAE Systems plc Annual Report 2021 103 Strategic report ## How we manage risk ## Effective management of risks is essential to the delivery ## oftheGroup’s strategic objectives and the creation of ## sustainable shareholder value. ### Board Approach Financial and non-financial risks The Board has overall responsibility The Group’s Risk Management Policy is Financial risks expose the Group to fordetermining the nature and extent setout in the Operational Framework, the potentialcosts which are quantifiable on ofthe risk the Group is willing to take, Group’s detailed governance framework. the basis that their probability and impact andensuring that risks are managed can be understood adequately and related The Group’s approach to risk management effectively across the Group. to the financial statements. is aimed at the early identification of key Risk is considered on a regular basis at risks, mitigating the effect of those risks Non-financial risks cannot be assessed Board and Board committee meetings before they occur and dealing with them readily in financial terms and, therefore, andthe Board reviews risk as partof its effectively if they crystallise. cannot be reflected reliably in the business planning and annual strategy financialstatements. The Group is committed to the protection review process. This provides the Board ### of its assets, which include human Process withan appreciation of the key risks within resources, intellectual and physical property, the business and oversight of how they The responsibility for risk identification, and financial resources, through an effective arebeing managed. analysis, evaluation and mitigation risk management process, underpinned restswith the line management of the The Board delegates oversight of certain where appropriate by insurance. businesses. They are also responsible riskmanagement activities to the Audit Reporting within the Group is structured forreporting and monitoring key risks andEnvironmental, Social and Governance sothat key issues are escalated through inaccordance with established policy Committees. themanagement team and ultimately andprocesses under the Group’s Audit Committee totheBoard where appropriate. The Operational Framework. underlying principles of the Group’s risk The Audit Committee monitors the Group’s The Group’s risk management process management processes are that risks key risks identified by the risk assessment issetout in the Risk Management Policy, aremonitored continuously, associated processes and reports its findings to the amandated policy under the Operational action plans reviewed, appropriate Board twice a year. It is also responsible for Framework, and, in respect of projects, contingencies provisioned and this reviewing in detail the effectiveness of the inthe Lifecycle Management Framework, information reported through established Group’s system of internal control policies, acore business process under the management control procedures. and procedures for the identification, Operational Framework. Further guidance assessment and reporting of risk. isprovided by a Risk Management Maturity The Board has conducted a review of theeffectiveness of the Group’s systems self-assessment tool. Environmental, Social and ofrisk management and internal control GovernanceCommittee Identified risks are documented in risk processes, including financial, operational The Environmental, Social and registers showing: the risks that have been and compliance controls and risk GovernanceCommittee monitors the identified; characteristics of the risk; the management systems, in accordance Group’s performance in managing the basis for determining mitigation strategy; withthe UK Corporate Governance Group’s significant non-financial risks, and what reviews and monitoring are Code.The Company has developed a including those arising in respect of necessary. Each risk is allocated an owner system of internal controls that was in businessconduct, health and safety and who has authority and responsibility for placethroughout 2021 and to the date theenvironment. The Committee reports assessing and managing it. ofthis report. itsfindings to the Board on a regular basis. Project risks are reported and monitored As with any system of internal control, inGroup-mandated format Contract thepolicies and processes that are ReviewPacks, which are reviewed by mandated in the Operational Framework management at monthly Contract Reviews. are designed to manage rather than The financial performance of projects is eliminate the risk of failure to achieve reported and monitored using Contract business objectives and can only provide Status Reports, which form part of the reasonable, and not absolute, assurance Contract Review Pack. against material misstatement or loss. 104 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance These include programme margin Page 106 ### Principal and emerging risks Our risk management framework metrics,which are reviewed regularly The Board has carried out a robust bytheExecutive Committee and Board. Page 107 assessment of the principal and emerging Our principal risks Project margin is recognised after making risks facing the Group. Principal and suitable allowances for technical and emerging risks have been identified, and otherrisks related to performance aremanaged or mitigated, through the milestones yet to be achieved. application of the policy and processes In addition, every six months, the outlined above. businessesand Group functions complete Principal risks include those that would an Operational Assurance Statement threaten the Group’s business model, (OAS),which is a mandated policy under futureperformance, solvency, liquidity the Operational Framework. The OAS is in orreputation. Risks have been identified two parts: a self-assessment of compliance asprincipal based on the likelihood of with the Operational Framework; and occurrence, the potential impact on the areport showing the key financial and Group and the timescale over which they non-financial risks for the relevant business might occur. The principal risks, together and Group functions. Together with with details of how they are being reviewsundertaken by Internal Audit mitigatedand managed, are detailed andthe work of the external auditors, onpages 107 to 113. theOASforms the Group’s process for reviewing the effectiveness of the system In view of the supply chain issues ofinternal controls. prevalentacross industry generally, including lead-time and availability Executive Committee issuesand pricing pressures, the Group The key financial and non-financial risks hasexpanded the contract risk and identified by the businesses from the risk execution risk factor to include the risk assessment processes are collated and thatit may be impacted by such issues reviewed by the Executive Committee to regarding the delivery of materials by identify those issues where the cumulative suppliers and the assembly of components risk, or possible reputational impacts, and subsystems by subcontractors used couldbe significant. inits products in a timely and satisfactory manner, on satisfactory commercial terms Management responsibility for the and in full compliance with applicable management of the Group’s most termsand conditions. significant non-financial risks is determinedby the Executive Committee. The directors have considered the relevanceof the risks of climate change The OAS and non-financial risk registers andtransition risks associated with the arereviewed regularly by the Executive Group’s net zero greenhouse gas emissions Committee to monitor the status and targets when preparing and signing off progression of mitigation plans. The key theCompany’s accounts. risks are reported to the Board on a regularbasis. BAE Systems plc Annual Report 2021 105 Strategic report ## Our risk management framework Board – Overall responsibility for risk management Audit Committee Environmental, Social and Operational Assurance Statement Risk Register GovernanceCommittee and Non-financial Risk Register Non-financial Risk Register Executive Committee Operational Assurance Statement Risk Register and Non-financialRisk Register Risk challenge, monitoring and reporting Risk challenge, monitoring and reporting * Chief Executive’s Business Review – Core Business Process Quarterly top-level review of the key operational, financial and non-financial performance issues within the business, and significant forthcoming bids and events * Quarterly Business Review – Core Business Process Quarterly management review of the performance of each of the Group’s businesses against their objectives, measures and milestones * Integrated Business Plan – Core Business Process Annual long-term strategy review and five-year plan for each business Strategic objectives and shareholder value Project objectives and financial return | | | | | Business Risk | | | | | | | | Project Risk | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | | | | * | | | | | | | | | * | | | Risk Management Policy – Mandated Policy | | | | | | | Lifecycle Management Framework – Mandated Policy | | | | | | | | | | | | | Identification | | | | | | | | Identification | | | | | | | | Financial and non-financial risks | | | | | | | Financial and non-financial risks | | | | | | | | | | | recorded in risk registers | | | | | | | recorded in risk registers | | | | | | | | | | | 01 | | | | | | | | 01 | | | | Mitigation | | | | | | Analysis | Mitigation | | | | | | | Analysis | | | Risk owners | | | | | | Risks analysed | Risk owners | | | | | | | Risks analysed | | | identified and | | | | | | for impact | identified and | | | | | | | for impact | | | action plans | | 04 02 | | | | andprobability | action plans | | 04 02 | | | | | andprobability | | | implemented. | | | | | | to determine | implemented. | | | | | | | to determine | | | Robust mitigation | | | | | | gross exposure | Robust mitigation | | | | | | | gross exposure | | | strategy subject | | | | | | | strategy subject | | | | | | | | | | to regular and | | | | | 03 | | to regular and | | | | | | 03 | | | | rigorous review | | | | | | | rigorous review | | | | | | | | | | | | | | Evaluation | | | | | | | | Evaluation | | | | | | | Risk exposure reviewed andrisks prioritised | | | | | | | Risk exposure reviewed andrisks prioritised | | | | | | | * * Operational Assurance Statement – Mandated Process Lifecycle Management Project Performance Review Six-monthly management self-assessment of compliance Regular management review of project performance and issues withtheOperationalFramework and summary of key risks toensurethatappropriate decisions and actions are taken Audit Review Board Assurance of the Business and Project Risk management processes as mandated in the Audit Charter. Including Operational and Non-financial Risk Management assurance Page 118 * As defined in the Group’s Operational Framework 106 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance ## Our principal risks ## Risks are identified based on the likelihood of occurrence, the potential ## impacton the Group and the timescale over which they might occur. ## TheGroup’s principal risks are identified below, together with a description ## ofhow we mitigate those risks. Description Impact Mitigation ### Government customers, defence spending and terms of trade The Group’s largest customers are governments. The Group is dependent on government defence spending, and the timing and terms of trade of government contracts. | In 2021, 95% of the Group’s sales were | Lower defence spending by the Group’s | The business is geographically spread across the US, | | --- | --- | --- | | defence-related. | major customers could have a material | UKandinternational defence markets. | | | adverse effect on the Group’s future | The diverse product and services portfolio is marketed | Defence spending by governments can results and financial condition. across a range of defence markets. fluctuatedepending on change of government | policy, other political considerations, budgetary | | Our principal markets – the UK, US, Saudi Arabia and | | --- | --- | --- | | constraints, specific threats and movements | | Australia – have a significant and sustained commitment | | inthe international oil price. | | todefence and security – see Our markets on pages 26 | | There have been constraints on government | | and 27 ofthis Annual Report. | | expenditure in a number of the Group’s | | BAE Systems benefits from a large order backlog, with | | principalmarkets. | | established positions on long-term programmes in our | | Defence spending by governments has also | | principal markets. | | beenimpacted by the COVID-19 outbreak | | BAE Systems has a portfolio of commercial businesses, | | duetoreprioritisation of funds. | | including commercial avionics. | | The Group has long-standing relationships | Deterioration in the Group’s principal | Government customers have sophisticated procurement | | andsecurity arrangements with a number of | government relationships resulting | and security organisations with which the Group can have | | itsgovernment customers, including its three | inthe failure to obtain contracts or | long-standing relationships with well-established and | | largest customers, the governments of the | expected funding appropriations, | understood terms of business. | | US,UK and Saudi Arabia, and their agencies. | adverse changes in the terms of its | | In the event of a customer terminating a contract for Itisimportant that these relationships and arrangements with those customers convenience, the Group would typically be paid for work arrangements are maintained. ortheir agencies, or the termination done and commitments made at the time of termination. ofcontracts could have a material In the defence and security industries, adverse effect on the Group’s future governments can typically modify contracts results and financial condition. fortheir convenience or terminate them atshortnotice. Most long-term US government contracts, for example, are funded annually orincrementally and are subject to cancellation iffunding appropriations for subsequent periodsare not made. Governments also from time to timereview theirterms of trade and underlying policies andseek to impose such new terms and policieswhen entering into new contracts. The Group’s performance on its contracts withsome government customers is subject tofinancial audits and other reviews which canresult in adjustments to prices and costs. The Group’s profits and cash flows are Amounts receivable under the Group’s The Group’s balance sheet continues to be managed dependent, to a significant extent, on the defence contracts can be substantial conservatively in line with its policy to retain an investment timingof, or failure to receive, award of defence and therefore, the timing of, or failure grade credit rating and to ensure operating flexibility. contracts and the profile of cash receipts on its toreceive, awards and associated cash The Group monitors a rolling forecast of its liquidity contracts. The timing of cash receipts could be advances and milestone payments could requirements to ensure that there is sufficient cash to meet impacted by the reprioritisation of government materially affect the Group’s profits its operational needs and maintain adequate headroom. funds as a result of the outbreak of the andcash flows for the periods affected, COVID-19pandemic. thereby reducing cash available to meet the Group’s cash allocation priorities, potentially resulting in the need to arrange external funding and impacting its investment grade credit rating. BAE Systems plc Annual Report 2021 107 Strategic report ## Our principal risks continued Description Impact Mitigation ### International markets The Group operates in international markets. BAE Systems is an international company The occurrence of any such events could The Group has a balanced portfolio of businesses conducting business in a number of regions, have a material adverse effect on the acrossa number of markets internationally. The Group including the US and the Middle East. Group’s future results and financial benefits from a large order backlog, with established condition. The risk of the Group’s inability positions on long-term programmes in the US, UK, The risks of operating in some countries include: to obtain and maintain the necessary Saudi Arabia and Australia. social and political changes impacting the export licences for our business in Saudi business environment; economic downturns, The Group’s contracts are often long-term in nature Arabia could affect the Group’s provision political instability and civil disturbances; the and consequently, it may be able to mitigate these of capability to the country. imposition of restraints on the movement of risksover the term of those contracts. capital; the introduction of burdensome taxes Political risk insurance is held in respect of export ortariffs; change of export control and other contracts not structured on a government-to- government policy and regulations in the UK, government basis. USand all other relevant jurisdictions; and the inability to obtain or maintain the necessary BAE Systems has a well-established legal and regulatory export licences. compliance structure aimed at ensuring adherence to regulatory requirements and identifying restrictions that could adversely impact the Group’s activities, including export control requirements. The Group is exposed to volatility arising Significant fluctuations in exchange rates The Group’s policy is to hedge all material firm frommovements in currency exchange rates, towhich the Group is exposed could have transactional currency exchange rate exposures. particularly in respect of the US dollar, euro, a material adverse effect on the Group’s Saudiriyal and Australian dollar. There has been future results and financial condition. volatility in currency exchange rates in the period. | While the terms of the UK’s relationship with | If the UK is excluded from new European | BAE Systems benefits from a large order backlog | | --- | --- | --- | | theEU after the end of the transition phase | collaborative defence programmes, this | withestablished positions on long-term programmes | | on31 December 2020 have now been clarified | could impact the Group’s future results | inthe US, UK, Saudi Arabia and Australia and there | | bythe entry by the UK and the EU into the | andfinancial condition. | isrelatively limited UK-EU trading. BAE Systems has | | Tradeand Cooperation Agreement, the UK | | keyroles in major ongoing European programmes, | | isnow a third country for the purposes of | | suchas Eurofighter, which are only likely to be | | EU-funded defence projects. There remains | | marginally affected by Brexit. BAE Systems will | | therisk that, as a result of the UK leaving the | | supportthe UK government in achieving its aim to | | EU,the Group’s ability to take part in new | | ensure that the UK maintains its key role in European | | European collaborative defence programmes, | | security and defence in the post-Brexit environment, | | whether under such EU-funded projects or | | and to strengthen bilateral relationships with key | | otherwise, could be hampered. | | partners in Europe. This will be important for ongoing | collaboration with such partners in Europe on the development of defence capabilities. 108 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance Description Impact Mitigation ### Contract risk, execution and supply chain The Group has many contracts, including a small number of large contracts and fixed-price contracts, and is dependent upon component availability, subcontractor performance and key suppliers. | In 2021, 51% of the Group’s sales were | The inability of the Group to deliver | Contract-related risks and uncertainties are managed under | | --- | --- | --- | | generated by its 15 largest programmes. | onits contractual commitments, the | the Group’s mandated Lifecycle Management process. | | At31 December 2021, the Group had nine | loss, expiration, suspension, cancellation | | A leadership development programme for project programmes with order backlog in excess or termination of any one of its large directorscontinues to be deployed across the Group, of£1bn. contracts or its failure to anticipate covering the leadership competencies required to manage technical problems or estimate A significant portion of the Group’s revenue complex projects containing significant levels of risk accurately and control costs on isderived from fixed-price contracts. Actual anduncertainty. fixed-price contracts could have a costsmay exceed the projected costs, including material adverse effect on the Group’s A significant proportion of the Group’s largest assumptions on future rates of inflation, on future results and financial condition. contractsare with the UK Ministry of Defence. In the whichthe fixed prices are agreed and, since these UK,development programmes are normally contracted contracts can extend over many years, it can be with appropriate levels of risk being initially held by the difficult topredict the ultimate outturn costs. customer and contract structures are used to mitigate risk It is important that the Group maintains a culture on production programmes, including where the customer in which it delivers on its projects within tight and contractor share cost savings and overruns against tolerances of quality, time and cost performance target prices. in a reliable, predictable and repeatable manner. The Group has a well-balanced spread of programmes and significant order backlog which provides forward visibility. The Group has limited exposure to fixed-price design and development activity which is in general more risk intensive than fixed-price production activity. Robust bid preparation and approvals processes are well established throughout the Group, with decisions required to be taken at the appropriate level in line with clear delegations of authority. The Group is dependent upon the delivery Some of the Group’s suppliers or The Group’s procurement function is responsible ofmaterials by suppliers and the assembly of subcontractors may be impacted by forestablishing and managing end-to-end integrated components and subsystems by subcontractors theeconomic environment (including supplier arrangements. used in its products in a timely and satisfactory inflationary pressures) which could The Executive Committee continues to monitor this manner, on satisfactory commercial terms impair their ability to meet their risk.Inmany cases, the Group benefits from long-term andinfull compliance with applicable terms obligations to the Group and to supply programme positions and incumbencies with more stable andconditions. The external supply chain on satisfactory commercial terms. In forward visibility for long-lead items allowing the Group environment is very dynamic at this time, some instances, the Group is dependent tocontinue to actively manage supplier lead times against withboth lead-time and availability issues, on one or a limited number of suppliers. demand requirements. butalso pricing pressures, including from If any of these suppliers or subcontractors inflationary increases in labour, energy and fail to meet the Group’s needs, the The Group seeks to manage the inflation risk through otherkey materials. Group may not, in the short term, have itscontracting arrangements on many of its major readily available alternatives, thereby programmes, effective cost management and improved impacting its ability to complete its efficiency of the Group’s own operations and through customer obligations satisfactorily and itslong-term supplier agreements. in a timely manner. The above events could have a negative impact on the Group’s future results of operations andfinancial condition. BAE Systems plc Annual Report 2021 109 Strategic report ## Our principal risks continued Description Impact Mitigation ### Competition in international markets The Group’s business is subject to significant competition in international markets. The Group’s business plan depends upon The Group’s business and future results The Group has an international, multi-market presence, itsability to win and contract for high-quality may be adversely impacted if it is unable abalanced portfolio of businesses, leading capabilities new programmes, an increasing number of tocompete adequately and obtain anda track record of delivery on its commitments to whichare expected to be in markets outside newbusiness in the markets in which itscustomers. theUS and UK. itoperates. The Group continues to invest in research and The Group is dependent upon US and UK development, and to reduce its cost base and improve government support in relation to a number efficiencies, to remain competitive. ofitsbusiness opportunities in export markets. In the UK, export contracts can be structured on a government-to-government basis and government supportcan also involve military training, ministerial support for promotional activities and financial support through UK Export Finance. In the US, most of the Group’sdefence export sales are delivered through theForeign Military Sales process, under which theimporting government contracts with the USgovernment. ### Outbreak of contagious diseases The outbreak of contagious diseases may have an adverse effect on the Company’s business, financial condition and results of operations. | There is currently a COVID-19 pandemic across | Contagious diseases, and the measures | Since the outbreak of the COVID-19 pandemic, the | | --- | --- | --- | | the world and governments are taking a | taken to control them, can have an adverse | Group has taken a number of responsive measures | | number of steps to mitigate the impact of this | effect on the Group’s business, financial | including reducing site operational levels and | | pandemic. Many people have contracted the | condition and results of operations. | introducing new cleaning regimes, safe working | | disease acrossthe world and many deaths | | distance measures and protective equipment for | While the Group is liaising closely with have occurred.Although there has been an ouremployees. The Group continues to build on itscustomers and suppliers to understand effective roll-out of vaccination programmes theexperience gained to date in dealing with the any changes in requirements and priorities in certain countries, it is still not clear how pandemic. This includes the use of safe working during this time, the uncertainties long this pandemic will last or how enduring practices and the effective use of home working. surrounding the development of this its long-term impact will be, or the further pandemic make it difficult to predict By taking these measured actions to build in resilience measures that will be taken by governments theextent to which the Group may for a prolonged period of disruption, we havecontinued andothers to seek to control this pandemic beaffected. to deliver critical work for our customers and, where and its impact. operations were impacted, ensured that site-critical Areas of the Group’s business that could be The COVID-19 pandemic could alsoresult in workers have now been able to safely return to work impacted include a decrease in spending by changes to the outlook in the where possible. the Group’s major defence and commercial Group’smarkets. customers; an increase in taxation by Support for the defence industry from the governments governments; the failure to obtain awards in our key markets has been strong around for defence and commercial contracts; the prioritisationof capabilities, cash flows, recognising failure of suppliers to deliver parts to the theneed to maintain a strong supply chain and Group; the requirement for the Group or workingcollaboratively to maintain critical defence itssuppliers to reduce site operational levels andsecurity programmes. or close sites; the inability of the Group to meet contractual delivery requirements on time; the inability to adequately staff and manage the business; and an increase in the cost or lack of availability of funding. If the Group were unable to obtain appropriate funding, it could be forced tomake reductions in spending, seek to extend payment terms with suppliers and/ or suspend or curtail planned programmes. Any of the above could have a material adverse effect on the Group’s business,financial condition and results ofoperations. 110 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance Description Impact Mitigation ### Cyber security The Group could be negatively impacted by threats to the security of its information technology and operational technology systems. The cyber security threats faced by the Group Failure to combat these risks effectively The Group has a broad range of measures in place, include: threats to the operation of its information could disrupt business operations, including use of appropriate tools and techniques to technology (IT) and operational technology (OT) compromise the security of the Group’s monitor and mitigate the risks. Many of our networks infrastructure and systems; unlawful attempts products and services, erode the Group’s andsystems have to be configured and operated to togain access to both the Group’s proprietary competitive advantage, and negatively meetgovernment and customer requirements for storing, orclassified information and that of its customers, impact the Group’s reputation among managing and processing the various different levels of partners and suppliers; and the potential for its customers and the public, resulting government classified information handled by the Group. business disruptions associated with IT and ina negative impact on the Group’s We leverage our core specialist internal capabilities in OTfailures. future results and financial condition. information security, and combine it with our external market and intelligence knowledge, to ensure continued protection, and constant re-evaluation of our security posture against targeted attacks and other evolving threats. To complement the threat and data security risk activity, continual protective monitoring of our networks is undertaken locally and by our Global Security Operations Centre for centralised analysis to protect the enterprise infrastructure. As well as monitoring for signs ofexternal attack, our protective monitoring also operates against Insider Threat activity, where user violations of security policy are detected and investigated. A formal assurance programme, which is audited both internally and externally, is operated to check adherence tocompany standards and customer requirements. Supplementing these mitigations is a programme of continuous employee education and awareness to help ensure employees understand applicable policies and actappropriately to mitigate the threats. ### People The Group’s strategy is dependent on its ability to recruit and retain people with appropriate talent and skills. Delivery of the Group’s strategy and business plan The loss of key employees or inability The Group recognises that its employees are key to is dependent on its ability to compete to recruit toattract the appropriate people on a delivering its strategy and business plan, and focuses and retain people with appropriate talent and timely basis could adversely impact the ondeveloping the existing workforce and hiring talented skills, including those with innovative Group’s ability to deliver its strategy, people to meet current and future requirements. technological capabilities. meet the business plan and, accordingly, The Group has well-established graduate recruitment have a negative impact on the Group’s The Group’s business plan is targeting an andapprenticeship programmes and, in order to future results and financial condition. increasing level of business in international export maximisethe contribution that its workforce can make markets outside the US and UK. It is important tothe performance of the business, has an effective that the Group recruits and retains management through-career capability development programme. with the necessary international skills and In order to seek to maximise its talent pool, the Group is experience in the relevant jurisdictions. committed to creating a diverse and inclusive environment for its employees. BAE Systems plc Annual Report 2021 111 Strategic report ## Our principal risks continued Description Impact Mitigation ### Pension funding An aggregate funding deficit could arise in the Group’s defined benefit pension schemes. The latest estimates show that there is no An increase in pension scheme In the UK, new employees have been offered membership of longer a funding deficit in any of the pension liabilities or reduction in pension defined contribution rather than defined benefit schemes since schemes. A funding deficit could arise or be scheme assets could result in a April 2012 and, in the US, employees have not accrued salary- adversely affected by changes in a number of pension scheme deficit which may related benefits in defined benefit schemes since January 2013. factors, including investment returns and require the Group to increase the The investment strategy in place across the UK and US schemes members’ anticipated longevity. amount of cash contributions payable aims to ensure that the pension scheme assets are invested to these schemes, thereby reducing suchthat they match the cash flows needed to meet the pension cash available to meet the Group’s liabilities, thereby reducing the risk of a deficit arising. Across the other cashallocation priorities. UK schemes there are a number of longevity risk management strategies in place. The US pension plan transferred around $1bnof pension liabilities to an insurance company in 2020. In October 2019 the assets and liabilities of six of the Group’s pension schemes were consolidated into a single scheme. This was carried out to drive long-term efficiencies. Following the merger, the Company and Trustees agreed to carry out an early triennial funding valuation as at 31 October 2019. In February 2020 that valuation and deficit recovery plan were agreed with the Trustees after consultation with The Pensions Regulator in theUK. The funding deficit as at 31 October 2019 was £1.9bn. As part of the valuation agreement, the Company paid £1bn intothe Scheme in April 2020, representing an advancement of£1bn of deficit contributions due between 2022 and 2026. The UK triennial funding valuations for the other smaller UK pension schemes dated 31 March 2020 have been finalised andall of the schemes were in surplus requiring no further Company contributions to be made. ### Climate change and the environment The Group may be impacted by environmental factors, including those relating to climate change. | The Group is subject to comprehensive | Environmental factors, including | We have set ourselves the target of achieving net zero greenhouse | | --- | --- | --- | | environmental laws and regulations in each | those relating to climate change, | gas emissions across our operations (Scope 1 and 2) by 2030 and | | ofthecountries in which it operates, including | have the potential to materially | working towards a net zero value chain by 2050. | | those relating to the impacts of climate | impact our business and operations. | | More generally, we have taken a business-led approach to setting change. Such laws and regulations impose Increasing changes in environmental reduction targets and driving improvement programmes and standards with respect to air emissions, laws and regulations can expose activities to reduce our environmental impacts. wastewater discharges, the use, handling theCompany to increasing capital andstorage of hazardous materials and We have an environmental management system in place for all and operating costs associated waste,remediation of soil and groundwater ofour businesses and short- and long-term risks relating to the withcompliance, remediation contamination and the prevention of environment and climate change, including those arising from andprotection of the environment. pollution. They can also include energy-related current and emerging regulation, are built into these business Breaches of such laws and taxes and the increased costs of compliance environmental management systems. These systems enable regulations can result in substantial with energy-related schemes. ustodefine issues and set appropriate targets for the reduction costs, including fines, penalties of environmental and climate change impacts and risks. The Group may also be impacted by orother sanctions, investigations environmental factors, including physical andclean-up costs, and third-party Understanding how the business may be impacted by risksarising from climate change, such claims for property damage or environmental factors is also a key component of how we asextreme weather events, for example personal injury as well as the seektomitigate emerging, medium- and longer-term risk. floodingand storms, and scarcity of water termination of permits. BAE Systems uses analytical tools to apply natural catastrophe andother resources. Extreme weather events can impact classifications to its sites worldwide. This has informed our The Group may also be impacted by climate ouroperational sites as well of those strategy as to where to target a programme of specific flood, change transition risks resulting from the ofour suppliers. windstorm and earthquake assessments of our sites and process of adjusting to a low carbon economy. implement the subsequent risk reduction recommendations. The shift to a low carbon economy Associated with this are potential risks around has the potential to increase the cost In 2020, we conducted a refresh of this data and during our ability to attract and retain future talent. | of business as the Company transitions | 2021wemodelled climate scenarios for 2030, 2050 and | | --- | --- | | to lower emissions technologies | 2085.Wehave also begun to assess the natural hazard risks | | anddeals with the disposal of its | ofour critical Tier 1 suppliers’ sites. | legacy assets. During 2021, we further developed our understanding of theclimate-related risk and opportunities with the potential toimpact BAE Systems’ business model and strategy as a result of the qualitative scenario modelling which has taken place. Weare now starting to progress quantification of material risks and opportunities against identified climatescenarios. 112 BAE Systems plc Annual Report 2021 Strategic report Financial statementsGovernance Description Impact Mitigation ### Laws and regulations The Group is subject to risk from a failure to comply with laws and regulations. The Group operates in a highly-regulated Failure by the Group, or its sales BAE Systems has a well-established legal and regulatory environment across many jurisdictions and is representatives, marketing advisers compliance structure aimed at ensuring adherence to subject, without limitation, to regulations relating orothers acting on its behalf, to regulatory requirements and identifying restrictions that to import-export controls, money laundering, complywith these regulations could could adversely impact the Group’s activities. false accounting, anti-bribery and anti-boycott result in fines and penalties and/or Internal and external market risk assessments form an provisions. It is important that the Group thesuspension or debarment of the important element of ongoing corporate development maintains a culture in which it focuses on Group from government contracts or andtraining processes. embedding responsible business behaviours the suspension of the Group’s export andthat all employees act in accordance with privileges, which could have a material A uniform global policy and process for the appointment therequirements of the Group’s policies, adverse effect on the Group. ofadvisers engaged in business development is in effect. including the Code of Conduct, at all times. Reduced access to export markets BAE Systems continues to reinforce its ethics programme Export restrictions could become more couldhave a material adverse effect globally, driving the right behaviours by supporting stringentand political factors or changing onthe Group’s future results and employees in making ethical decisions and embedding international circumstances could result financial condition. responsible business practices. intheGroup being unable to obtain or maintainnecessary export licences. ### Acquisitions The anticipated benefits of acquisitions may not be achieved. BAE Systems considers investment in The diversion of management The Group has established policies in place to manage value-enhancing acquisitions where market attentionto integration efforts and the theacquisition process, monitor the integration and conditions are right and where they deliver performance of the acquired businesses performance of acquired businesses, and identify onitsstrategy. Whether BAE Systems realises below expectations could adversely potentialimpairments. theanticipated benefits from these transactions affect BAE Systems’ business and create depends upon the successful integration of the risk of impairments arising on theacquired businesses as well as their goodwill and other intangible assets. post-acquisition performance in the markets inwhich they operate. Additional risks and uncertainties currently unknown to the Group, or which the Group currently deems immaterial, may also have an adverse effect on the business or financial condition of the Group. ### Strategic report The Strategic report was approved by the Board of directors on 23 February 2022. David Parkes Company Secretary BAE Systems plc Annual Report 2021 113 Governance # Chairman's governance letter ![img-1.jpeg](img-1.jpeg) ## Contents | Chairman's governance letter | 114 | | --- | --- | | Board of directors | 115 | | Governance framework | 118 | | Applying the UK Corporate Governance Code Principles | 120 | | Governance disclosures | 122 | | Board information | 124 | | Nominations Committee report | 125 | | Audit Committee report | 129 | | Environmental, Social and Governance Committee report | 134 | | Innovation and Technology Committee report | 138 | | Remuneration Committee report | 139 | ## Dear Shareholders This year will be the 30th anniversary of the publication of the Cadbury Committee's landmark report on corporate governance, the founding document for today's UK Corporate Governance Code. The report highlighted the importance of an effective board in creating and maintaining good corporate governance. It set out the basic tenets of governance that we recognise today; division of responsibility at the top of a company, a majority of independent directors, board committees to provide oversight on audit and remuneration, and the role of shareholders in satisfying themselves that an appropriate governance framework is in place. Those core elements have remained. However, as the business environment continues to develop rapidly, corporate governance has broadened, most notably to recognise wider stakeholder responsibilities. This section of our Annual Report reflects that change, and we continue to evolve our reporting to provide best practice levels of disclosure and transparency – in our 1996 annual report (the first to be subject to what was referred to as the Cadbury Code) the section on governance consisted of a mere 12 pages, whereas for 2021 this section runs to 74 pages. Our statement of Purpose is positioned appropriately at the very beginning of this document – it is at the heart of what we do and how we do it. We recognise the importance of clearly articulating what we do and the value of that to our stakeholders and wider society. Defence and security are of fundamental importance to society. Only defence companies such as BAE Systems can bring together the technology, know-how and resources needed to provide our government customers with the means to fulfil their national defence obligations. That said, we are taking a more active approach in communicating that message to all stakeholders, and it is something on which we will continue to place greater emphasis. Today, disclosure and transparency is much more than simply 'comply or explain' statements. The Board of BAE Systems recognises its role in monitoring our corporate culture and looking to ensure that, in the words of Our Purpose, we are 'performance driven and values led'. The Board specifically reviewed our corporate culture last year. We used feedback from employees to inform these discussions and also looked at how the values and the behaviours we have set are being used to achieve the desired culture. The unitary board remains at the heart of the UK's governance model, with directors providing leadership and oversight over a company. Such oversight does involve monitoring in-year financial performance, amongst many other things, and I'm pleased that the Company had another strong year in 2021. However, just as important is the Board's oversight of our performance in investing for the future, such as the significant increases in R&D investment we are making, our use of M&A to augment our technology base and capabilities and investing in our people, including the record number of apprentices and graduates we will be recruiting into our UK businesses this year. When it comes to performance oversight, the Board is just as much involved in how we do business, as it is in the returns we make for our shareholders. Last October we held a governance event attended by investors at which we provided more insight into how we operate. In our industry, that means applying high standards and robust controls when it comes to how we win new business. It also means mandating a principles-based decision-making process, aimed at ensuring that the risks associated with our possible involvement with new customers, products and services are understood – through this process we can make informed decisions (at Board level, if necessary) and walk away from business opportunities that we believe are not aligned with our ethos. Following last year's well received governance event, engagement on Environmental, Social and Governance matters remains a high priority and we will host another such event this year. In conclusion, I believe we have a deep understanding of the governance standards expected of a successful, forward-looking defence and aerospace company, and the leadership and governance standards to give that real substance. For all companies, corporate governance has become broader and more complex. In response, boards are exercising leadership and oversight across a wider and more diverse business agenda. Given that challenge, I'm pleased that we have a diverse group of individuals on our Board that bring the insight, experience and knowledge necessary to take the Company forward. **Sir Roger Carr** 114 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Board of directors N | Appointed to the Board: 2013 Nationality: UK | Appointed to the Board: 2016 Nationality: UK | Appointed to the Board: 2020 Nationality: US | | --- | --- | --- | | Skills, competence and experience | Skills, competence and experience | Skills, competence and experience | | Sir Roger was appointed Chairman in 2014, having | Charles joined BAE Systems in May 2016 as Chief | Brad joined BAE Systems in 2019 as Group | | joined the Board in 2013 as Chair Designate. He is | Operating Officer and became Chief Executive on | FinanceDirector Designate and joined the Board | | anexperienced company chairman with a wealth | 1July 2017. | on1April 2020. | ofknowledge gained across a number of business He is an experienced business leader with over He is a highly experienced executive with deep sectors. With over two decades of boardroom 25years’ experience in the defence and aerospace, financial and operational management experience, experience, Sir Roger has a deep understanding and oil and gas industries. Prior to joining the gained during a 30-year career in international ofgood stewardship, corporate governance and Company in 2016, he was Chief Executive Officer engineering and technology businesses. Prior to theenablers of board effectiveness. ofExpro Group, before which he spent 15 years joining the Company he held a number of senior Sir Roger is a Senior Advisor to KKR and withSchlumberger Limited holding a number of executive roles in Schlumberger, undertaking providesboard advisory services for certain senior management positions in Asia, Australia, rolesinEurope, Africa, South America and the US. ofitscompanies, Chairman of the English Europe and the US. He is a Fellow of the Royal Non-executive appointments NationalBallet and Vice President of the Academy of Engineering. None. RoyalNavyand RoyalMarines Charity. Non-executive appointments He has previously held a number of senior None. appointments including Chairman of Centrica plc, Vice Chairman of the BBC Trust, Deputy Chairman and Senior Independent Director of the Court of theBank of England, President of the Confederation of British Industry, Chairman of Cadbury plc, Chairman of Chubb plc, Chairman of Mitchells &Butlers plc, Chairman of Thames Water plc Chairman andChief Executive of Williams plc. Executive director Throughout his career he has served on a number ofexternal committees including the Prime Minister’s Business Advisory Group, the Manufacturing Council of the CBI, The Higgs Committee on Corporate Governance and Business for New Europe. He is a Fellow of the Royal Society for the encouragement ofArts, Manufactures and Commerce, a Companion of the Institute of Management, and an Honorary Fellow of the Chartered Governance Institute. He is also a Visiting Fellow of Saïd Business School, University of Oxford and holds an Honorary Doctorate in Business from Nottingham Trent University. Appointed to the Board: 2020 Nationality: US He was knighted for Services to Business in the Queen’s New Year’s Honours list 2011. Skills, competence and experience Tom was appointed to the Board on 1 April 2020, Other non-executive appointments serving as President and Chief Executive Officer of None. BAE Systems, Inc. Throughout his career, Tom has Committee membership ledcomplex organisations responsible for fulfilling Chair of Nominations Committee. critical and technologically challenging missions. Most recently he served as President and Chief Operating Officer of BAE Systems, Inc., having hada23-year career in various senior roles within BAE Systems, Inc. Prior to his senior leadership appointments, Tommanaged various organisations and programmes for Sanders, a Lockheed Martin company, until it was acquired by BAE Systems in2000. Earlier in his career, he held a variety ofengineering and programme management positions with General Electric and TASC. Non-executive appointments None. Tom Arseneault Sir Roger Carr Dr Charles Woodburn Brad Greve BAE Systems plc Annual Report 2021 115 President and Chief Executive Chairman Chief Executive Group Finance Director Officer of BAE Systems, Inc. Governance ## Board of directors continued E I N E N A N R Appointed to the Board: 2020 Nationality: UK Appointed to the Board: 2016 Nationality: UK Appointed to the Board: 2020 Nationality: UK Skills, competence and experience Skills, competence and experience Skills, competence and experience As Group Chief Executive of a FTSE 100 industrial Dame Elizabeth brings a wealth of investor, Jane has experience in leading high technology engineering company, Nick has a strong record governance and boardroom experience to the Board. businesses and international corporate leadership. ofleading and growing global businesses. His She is a former non-executive director of Pearson plc, She is Chair of Redx Pharma Plc, an AIM listed knowledge and experience, particularly in leading and a non-executive director and Chair designate company. In a long executive career with Johnson international engineering and manufacturing ofSchroders plc. She chairs the board of the Impact &Johnson, she held various executive positions operations, are a particular asset to the Board. Investment Institute, having previously chaired the andled its Corporate Citizen Trust in EMEA and industry Taskforce on Social Impact Investing for sponsored its Women’s Leadership Initiative. Since being appointed Group Chief Executive theUK government. She served as Chief Executive ofSpirax-Sarco Engineering plc in January 2014, Jane previously had been Company Group Chair Officer of Allianz Global Investors, initially for Europe Nickhas overseen the successful global growth ofJanssen EMEA, Johnson & Johnson’s research- then globally, from 2005 to 2016. ofSpirax-Sarco Engineering, which serves based pharmaceutical arm, where she was sponsor customersin130 countries worldwide. Prior Elizabeth is active in representing the investment of Janssen’s Global Pharmaceuticals Sustainability tohisroles at Spirax-Sarco Engineering, he was industry and developing standards within it. She is Council. She is a former Chair of the European Vice-President of John CraneAsia Pacific and amember of the CFA Future of Finance Advisory Federation of Pharmaceutical Industries and President ofJohnCrane Latin America. Council, the AQR Institute of Asset Management Associations, past Chair of the PhRMA Europe atthe London Business School, the Committee Committee and former member of the Corporate Other non-executive appointments of200 and the 300 Club. Advisory Board of the UK government-backed None. ‘YourLife’ campaign, aimed at encouraging more Elizabeth is also an acclaimed writer, a Fellow of Committee membership people to study STEM subjects. theRoyal Society for the encouragement of Arts, Environmental, Social and Governance Committee, Manufactures and Commerce and a trustee of the Other non-executive appointments Innovation and Technology Committee and British Museum. Dame Elizabeth was awarded a Chair of Redx Pharma Plc and Non-executive Nominations Committee. | DBEin the Queen’s Birthday Honours List 2019. | directorJohnson Matthey Plc. | | --- | --- | | Other non-executive appointments | Committee membership | | Non-executive director of MorganStanley plc | Chair of Environmental, Social and Governance | | andNon-executive director and Chair designate | Committee and member of Nominations Committee. | ofSchroders plc. Committee membership Audit Committee, Nominations Committee andRemuneration Committee. E N E N RI N R Appointed to the Board: 2021 Nationality: US Appointed to the Board: 2021 Nationality: UK Appointed to the Board: 2013 Nationality: UK Skills, competence and experience Skills, competence and experience Skills, competence and experience Crystal has held various senior leadership roles Dame Carolyn is a highly regarded business leader Chris is Chair of the UK Infrastructure Bank and withinthe energy and healthcare sectors and who served as Director-General of the Confederation Chairdesignate of Tilney Smith & Williamson. hasconsiderable expertise in government affairs, of British Industry from 2015 to 2020. Carolyn spent Hehasheld a range of leadership roles including legal and regulatory matters. She is currently the herearly career as an economist with the World Chief Executive of Barclays Commercial Bank and, Executive Vice President and Chief People Officer Bank in Washington. She also worked in government most recently, Chief Executive of The British Land ofthe US health insurance company, Independence as a member of the Number 10 Policy Unit during Company PLC, a position he held for over 11 years. Health Group. the1990s, following which she became a partner He brings extensive public company and business atMcKinsey specialising in digital and media, and leadership experience to the Board. In her executive career, Crystal held various held senior executive roles at the BBC and ITV. | seniorleadership roles during a long career with | | He has more than 30 years’ experience in the | | --- | --- | --- | | BPAmerica Inc., culminating with her appointment | She was previously a non-executive director of | banking and real estate industries. Prior to joining | | as Executive Vice President of Government and | LloydsBanking Group, The Vitec Group plc and | British Land, he was Chief Executive of Barclays | | Public Affairs and Strategic University Partnerships | Capita plc. She is also a former non-executive | Commercial Bank. Before that, he was a partner | | and membership of its Americas Leadership Team. | director of the UK Competition and Markets | atGoldman Sachs. Chris is a former member | | She is an Independent Director on the Board | Authority, the Financial Services Authority and | oftheexecutive board of the European Public | | ofTexasReliability Entity and serves on the | until2016, a Trustee of Marie Curie. | RealEstate Association and the board of the | | Engineering Dean’s Leadership Advisory Board | | BritishProperty Federation. | Dame Carolyn was awarded a DBE in the Queen’s attheUniversity of Michigan. She is a National Birthday Honours list 2019. Other non-executive appointments Association of Corporate Directors Fellow and Chair designate of Tilney Smith & Williamson. amember of the International Women’s Forum Other non-executive appointments andAmerican Bar Association. Non-executive director of HSBC Holdings plc. Committee membership Environmental, Social and Governance Committee, Other non-executive appointments Committee membership Nominations Committee and Remuneration Non-executive director of Texas Reliability Entity. Innovation and Technology Committee, Nominations Committee. Committee and Remuneration Committee. Committee membership Environmental, Social and Governance Committee and Nominations Committee. Crystal E Ashby Dame Carolyn Fairbairn Chris Grigg CBE Nick Anderson Dame Elizabeth Corley CBE Dr Jane Griffiths 116 BAE Systems plc Annual Report 2021 Non-executive director Non-executive director Non-executive director and Non-executive director Non-executive director Non-executive director Senior Independent Director Financial statementsGovernanceStrategic report Non-executive director I N E I N Committee chair A Audit Committee E Environmental, Social and GovernanceCommittee I Innovation and Technology Committee N Nominations Committee R Remuneration Committee | Appointed to the Board: 2021 Nationality: UK | Appointed to the Board: 2019 Nationality: US | | --- | --- | | Skills, competence and experience | Skills, competence and experience | | Ewan has extensive experience in commercialising | Nicole has extensive experience gained from | | data science and quantitative analysis. He has led | executive positions within the aerospace industry | | multiple ventures to identify, apply and leverage | and leadership of multi-functional teams. She | | technology and mathematics research in both | previously held a number of engineering, sales, | | business and philanthropy. | marketing and business strategy roles during her | 25-year career with the Boeing Company, including In 2006, he founded Cantab Capital Partners, a Vice President and GeneralManager of the science-driven investment management firm, which Propulsion Systems Division and Vice President of was acquired by GAM Investments in 2016 and one Business Development & Strategic Integration for of the top-performing quantitative investment Boeing’s commercial aircraft business, and President companies in the UK. Prior to founding Cantab, of Boeing Japan. Ewan was Partner and Head of Quantitative Strategies Group at Goldman Sachs. She is Chair of the Board of Trustees of Seattle University and an advisor to Mitsubishi Heavy He is Chair of the Isaac Newton Institute for Industries in Tokyo. Nicole formerlyserved on the Mathematical Sciences, Chairman of DeepTech Federal Aviation Authority’s Management Advisory Labs,a UK-based venture capital fund that invests Board, the US Department ofTransportation’s Future indeep technology businesses, and Co-Chair of of Aviation Advisory Committee and the Federal theTurner Kirk Trust. Reserve Bank of SanFrancisco’s Seattle branch. Other non-executive appointments Other non-executive appointments None. Weyerhaeuser Company and Howmet Aerospace Inc. Committee membership Committee membership Chair of Innovation and Technology Committee Environmental, Social and Governance Committee, andmember of Nominations Committee. Innovation and Technology Committee and Nominations Committee. A N A N R Appointed to the Board: 2019 Nationality: AU Appointed to the Board: 2013 Nationality: UK Skills, competence and experience Skills, competence and experience Stephen has20 years’ experience as a director Ian brings considerable financial and long-term ofpublic companies and more than 30 years of international contracting experience to the Board financial and commercial experience in the mining, gained across a number of industrial sectors. oil and gas, and utilities industries. He is currently Inhisexecutive career, Ian held a number of senior Finance Director of Anglo American plc, a role financeand operational positions within industrial hehasheld since April 2017, and a non-executive companies. He was appointed Finance Director director of DeBeers. ofBalfourBeatty plc and subsequently appointed asChief Executive in 2005. He is currently He previously served as CFO and an executive Chairmanof Vistry Group PLC, Amey plc and director of Fortescue Metals Group Limited AffinityWater Limited. from2010 to 2016. He is a Fellow of the Institute ofChartered Accountants, a Fellow of the Ian was formerly Chairman of Cairn Energy PLC Governance Institute of Australia and a Member andnon-executive director of Mediclinic ofthe Australian Institute of Company Directors. International plc, Cable & Wireless Communications Plc and VT Group plc. Other non-executive appointments None. Other non-executive appointments Chairman of Vistry Group PLC, Amey plc (a subsidiary Committee membership of Ferrovial, S.A.) and Affinity Water Limited. Chair of Audit Committee and member Non-executive director of Anglo American plc. ofNominations Committee. Committee membership Chair of Remuneration Committee and member ofAudit Committee and Nominations Committee. Dr Ewan Kirk Nicole Piasecki Stephen Pearce Ian Tyler BAE Systems plc Annual Report 2021 117 Non-executive director Non-executive director Non-executive director Non-executive director Governance ## Governance framework ## This is the structure through which we manage the Group including ## theBoard division of responsibilities. The structure continues to evolve ## tomeet the needs of the business and our stakeholder responsibilities. ### Role of the Board Agreed annually by the Purpose Board, the Operational | The Board shall promote the long-term | The Company’s purpose (see page 1) recognises that | | | --- | --- | --- | | sustainable success of the Company, | we serve, supply and protect those that protect us, | Framework contains a | | generatingvalue for shareholders, while | and that we have an important role in society which | | comprehensive statement havingregard toits other stakeholders and underpins the Board’s decision making. The Board of mandated governance theimpact of itsoperations on the environment monitors how our strategy, behaviours and culture align with our purpose. requirements and and the communities in which we operate. | Seepage 22 for more information on the | | delegated responsibilities. | | --- | --- | --- | | workof the Board. | Culture | The UK Corporate | | | Much of our strength as a business lies in our | Governance Code’s | The Board agrees Company’s purpose, values corporate culture which is performance driven and and standards of behaviour expected of all (theCode) principles are values led. The Board is responsible for ensuring employees, satisfying itself that these and the embedded within the that culture is aligned with our purpose, values culture of the business are aligned. The Board andstrategy. Operational Framework, also sets the Group’s strategy, oversees and and its policies and monitors internal controls, risk management Strategy processes underpin all and the Company’s governance framework. Our strategy (see page 14) is comprised of five key Ourrobust governance framework sets out thedisclosures made long-term focus areas aligned with our vision and howwe do business. mission. Agreed annually by the Board, it is an bythe Board pursuant important part of how it promotes the long-term tothe Code’s provisions. sustainable success of the Company. ### Board composition The Board consists of executive and independent non-executive directors, plus a non-executive chairman who wasindependent in accordance with the UK Corporate Governance Code on his appointment. There is a clear division in the roles and responsibilities of the executive and non-executive directors and between the Chairman and Chief Executive which are detailed in our Board Charter (available on the Company’s website). ### Board engagement with stakeholders In considering and engaging with stakeholders, the directors act in accordance with Section 172 of the Companies Act. The work of the Board during the year is detailed in pages 22 to 25. The Board has established principal committees which focus on particular areas, as set out below. The chair of each committee reports to the Board on the committee’s activities after each meeting. ### Board | | Nominations | Audit | | Environmental, | Innovation | Remuneration | | --- | --- | --- | --- | --- | --- | --- | | | Committee | Committee | Socialand Governance | | andTechnology | Committee | | | Page 125 | Page 129 | | Committee | Committee | Page 139 | | | | | | Page 134 | Page 138 | | | Chairma n Chief Executive Senior Independent Director Company Secretary | | | | | | | | Leads the Board and is responsible for its overall Responsible for the development and delivery Acts as a sounding board for the Chairman and acts Ensuring that Board procedures are complied | | | | | | | | effectiveness in directing the Company. Also ofthestrategy agreed by the Board. Developing as an intermediary for the other directors as necessary. with,advising the Board on all governance matters. | | | | | | | | facilitatesconstructive board relations and the forthe Board’s approval, appropriate values and Annually, or on other occasions as necessary, leading Also supports the Board by ensuring that it has the | | | | | | | | effective contribution of all non-executive directors, standards to drive the required behaviours and the non-executive directors in appraising the policies, processes, information, time and resources | | | | | | | 118 BAE Systems plc Annual Report 2021 and ensures that directors receive accurate, timely byleading by personal example with regards to Chairman’s performance, and providing feedback. itneeds in order to function effectively. andclear information. company culture. Financial statementsGovernanceStrategic report ### Internal controls We take pride in managing our operations responsibly Responsible Trading Principles used to reflect the Company’s standards of Operational Framework integrity and help us to thoroughly evaluate How we conduct business is fundamental to Provides a stable foundation theopportunities we pursue. thesuccess of our Company and we mandate from which to deliver aprinciples-based approach to our business Risk Management Policy ourstrategy, improve our activity. We do not compromise on the way We set clear requirements for the management Company performance weconduct business, and consistency of this and reporting of financial and non-financial andcontinue to develop approach is key in defining our reputation. risksin support of the delivery of our strategy. ourculture. Product Safety Policy Project risks are managed through ourLifecycle It is mandatory across all We set out principles which describe our Management Framework. wholly-owned entities and approach to product safety to reduce the risk of Core Business Processes sets out our approach to its unintentional harm to people, property and the Our Integrated Business Plan (IBP) represents organisation, governance environment. They apply throughout the life of acommon process with standard outputs framework, core business the Product and throughout the supply chain. andrequirements that produces an integrated practices and delegated Workplace and Operational Environment strategic and business plan for the Group and authorities. Our people management expectations are clearly also for each of its businesses over the following communicated to all employees and set out five years. The IBP is reviewed each year by within our People Policy. We have a zero theBoard as part of its strategy review process. Core Business Processes Once approved, the IBP provides the basis for tolerance policy regarding corruption and every | This describes the reporting | member of our workforce is aware of their role | setting all detailed financial budgets and strategic | | --- | --- | --- | | and reviews mandated by | in ensuring we maintain high standards of ethical | actions across the businesses, and is subsequently | | theOperational Framework, | conduct. Pages 64 to 65 provide further detail | used by the Board to monitor performance. | | which provide upwards | about our anti-corruption programme. | | As mandated by the Operational Framework, visibility of project and The safety and wellbeing of our employees is Businesses and Group functions complete a business performance. | paramount and our high standards for Health | bi-annual Operational Assurance Statement | | --- | --- | | and Safety management provide a common | (OAS). The OAS is in two parts: a self-assessment | | framework to guide our workforce and further | of compliance with the Operational Framework; | | information can be found on page 50. | and a report showing the key financial and | non-financial risks for the relevant business We use our expertise to reduce our global andGroup functions. Together with reviews environmental impacts and to develop products undertaken by Internal Audit and the work and services for our customers which reduce ofthe external auditors, the OAS forms the their impacts on the environment. Our climate Group’s process for reviewing the effectiveness transition strategy and impact on the environment of the system of internal controls. including; greenhouse gas emissions, efficient Operational Assurance use of resources, land use and biodiversity, and Lifecycle Management (LCM) Framework describes A process through which the environmental impact of the Group’s supply our approach to the assurance of Projects. LCM lineand functional leaders chain is overseen by the Environmental, Social is integral to the successful execution of the respectively confirm twice and Governance Committee. Group’s projects and programmes. Its application yearly that their businesses provides progressive risk based assurance We are committed to ensuring that IT systems and functions are compliant throughout the Lifecycle to aid decisions, and services are used in a manner which promotes with the Operational supporting delivery of Projects to achieve customer effective communication and working practices Framework. satisfaction, schedule and financial requirements. within the organisation and to preventing damage to its business or reputation through The purpose of the Mergers, Acquisitions misuse of those systems. With the support of andDisposals process is to provide a structured ourInternal Audit team, our IT assurance and approach to managing the Acquisitions, strategic governance programme developed to support Joint Ventures and Disposals. It forms apart of the effective management of cyber risks. our Strategy and Planning framework in order to support the delivery of the IBP. Suppliers The Company depends upon its suppliers to National Security Arrangements provide fully compliant, cost-effective equipment, The Group is subject to various national security Internal Audit goods, services and solutions, which are an requirements which are an important part of Assesses the effectiveness integral part of the world-class products required how we operate as a defence company and ofinternal controls through by our customers, and alsosupport the effective meet the needs of our customers. Due to the aprogramme of reviews operations of our Businesses and the Company’s nature of its activities, the UK government holds based on a continuous standards of business conduct. Our supply chain a Special Share in the Company, ensuring that assessment of business risk management and Supplier Principles – Guidance the Company cannot be non-British controlled. for Responsible Business (the Supplier Principles) We also have a Special Security Agreement with across the Company. are focused on high achievement of our standards. the US Department of Defense addressing Our supplier contracts contain anti-corruption national security matters relating to the and anti-bribery provisions and stipulate the ownership and control of our US defence expectation to comply with our standards on businesses. Similarly, our Australian operations ethical business conduct, compliance, Supplier are subject to an Overarching Deed with the Principles, safety, environment and human rights. Commonwealth of Australia which protects national security and other interests, and allows Product Trading Policy the Group to own and manage certain Underpins all of our business activity and is Australian defence-related industrial assets. applied to all Company products, trading, and These national security arrangements are an throughout the product lifecycle. The Policy is important part of our governance. BAE Systems plc Annual Report 2021 119 Governance # Applying the UK Corporate Governance Code Principles **Applying Principles of Good Governance:** The Company has applied the Principles in the UK Corporate Governance Code. Using the principal headings in the Code, the following provides details of how it has applied those principles and references other parts of these reports to provide more detail. The statements reference the Code Principles. ## Section 1 – Board leadership and Company purpose Principles - A. We have an effective and entrepreneurial Board that promotes the long-term sustainable success of the Company, generates value for shareholders and contributes to wider society. - B. The Board has established the Company's purpose, values and strategy, and satisfied itself that these and its culture are aligned. All directors are required to act with integrity, lead by example and promote the culture they wish to see for the Company. - C. Through the Company's integrated strategic planning process the Board has agreed annual and long-term strategic and financial objectives for the Company. The integrated nature of the planning process will help ensure that the necessary resources are in place to meet those objectives. The Board regularly reviews progress against the plan. The Company has a comprehensive controls structure that enables risk to be assessed and managed. - D. In order for the Company to meet its responsibilities to shareholders and stakeholders, the directors have established a number of means through which it is able to engage with them in order to better understand their views and expectations. - E. The Board looks to ensure that workforce policies and practices are consistent with our values and support our long-term sustainable growth. All members of our workforce are able to raise any matters of concern through our Ethics Helpline or with a local Ethics Officer. Reference - **1** Page 58 Supporting our communities Page 74 Dividends paid and capital allocation policy objectives Page 127 Annual Board evaluation - **2** Page 01 Our purpose Page 14 Our strategic framework Page 64 Sustainability – Environmental, Social and Governance – Governance Page 118 Governance framework Page 134 Environmental, Social and Governance Committee report - **3** Page 16 Our business model Page 119 Governance framework – Operational Assurance Statement – Integrated Business Planning – Lifecycle Management Policy - **4** Page 18 Our stakeholders Page 22 The work of the Board Page 134 Environmental, Social and Governance Committee report - **5** Page 01 Our purpose Page 14 Our strategic framework Page 50 Sustainability – Environmental, Social and Governance – Social ## Section 2 – Division of responsibilities - F. The Chairman leads the Board and is responsible for the overall effectiveness of the Board in directing the Company. In doing so he seeks to demonstrate objective judgement and promotes a culture of openness and debate within the boardroom. The directors are provided with accurate, timely and clear information, to facilitate open and constructive board relations. - G. The Board comprises the Chairman, three executive directors and ten non-executive directors. There is a clear division in the roles and responsibilities of the executive and non-executive directors and between the Chairman and Chief Executive which are detailed in our Board Charter (available on the Company's website). - H. The non-executive directors have committed to having sufficient time to meet their responsibilities. The non-executive directors provide constructive challenge, strategic guidance, offer specialist advice and hold management to account. - I. The Company Secretary supports the Board in ensuring the directors have the correct policies, processes, information and time in order to function effectively and efficiently. - **1** Page 118 Governance framework Page 127 Annual Board evaluation - **2** Page 114 Chairman's governance letter Page 118 Governance framework - **3** Page 118 Governance framework Page 122 Governance disclosures Page 124 Board information - **4** Page 118 Governance framework Page 128 Board performance evaluation 120 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## Section 3 – Composition, succession and evaluation Principles J. The Nominations Committee undertakes a formal, rigorous and transparent approach to succession planning for Board appointments. The Board oversees the development and implementation of succession plans for directors and senior management. Appointments and succession plans are based on merit and objective criteria, whilst also promoting diversity in all forms. K. The directors look to maintain a good combination of skills, experience and knowledge on the Board and on its committees. Succession plans take into consideration the lengths of service of directors and the need to regularly refresh Board membership. L. The Board annual performance evaluation undertaken by the Board in 2020 considered its composition, diversity and how effectively members worked together to achieve objectives. The evaluation included an assessment of the effectiveness of individual members. Reference 1 Page 124 Board information Page 125 Nominations Committee report 2 Page 114 Chairman's governance letter Page 124 Board information Page 125 Nominations Committee report 3 Page 125 Nominations Committee report Page 127 Annual Board evaluation ## Section 4 – Audit, risk and internal control M. The Board through its Audit Committee has established formal and transparent policies and procedures to ensure the independence and effectiveness of internal and external audit functions and the work they undertake assists the Board in satisfying itself as to the integrity of financial and narrative statements. N. As detailed in these reports, the directors confirm they consider the 2020 Annual Report and financial statements taken as a whole to be fair, balanced and understandable and provide the information necessary for shareholders to assess the Group's position and performance, business model and strategy. O. The Board has established procedures to manage risks, it also oversees the internal control frameworks and determines the nature and extent of the principal risks the Company is willing to take in order to achieve its long-term strategic objectives. 1 Page 129 Audit Committee report 2 Page 188 Directors' responsibility statement 3 Page 106 Our risk management framework Page 107 Our principal risks Page 118 Governance framework ## Section 5 – Remuneration P. The policies and practices of the Remuneration Committee have been designed to support our strategy and promote the long-term sustainable success of the Company. Executive remuneration is aligned to Company purpose and values and is linked to the successful delivery of our long-term strategy. Q. The Remuneration Committee has a formal and transparent procedure for developing policy on executive remuneration and also for determining the remuneration of directors and senior management. Directors are not involved in determining their own remuneration outcome. R. The Remuneration Committee has the ability to exercise its discretion and independent judgement when agreeing remuneration outcomes. When exercising such discretion it will take into account Company and individual performance, and also wider circumstances. 1 Page 139 Remuneration Committee report Page 143 Annual remuneration report 2 Page 139 Remuneration Committee report Page 168 Directors' remuneration policy 3 Page 139 Remuneration Committee report BAE Systems plc Annual Report 2021 121 Governance ## Governance disclosures ### UK Corporate Governance Code (the Code) compliance: The Company was compliant with ### the provisions of the Code throughout 2021 with the exception of Provision 38 concerning ### pension contribution rates for executive directors (see below), and the Board has applied its ### principles in its governance structure and operations (see page 118). The following statements ### are made in compliance with the Code. ### Code compliance The OAS process has been designed to Viability statement provide assurance with regard to compliance Provision 38 of the Code states: “the pension As required by the provisions of the Code, with the policies and processes mandated contribution rates of executive directors, or the Board has undertaken an assessment of by the Operational Framework. It is a key payments in lieu, should be aligned with those the future prospects of the Company, taking element of the Company’s governance and available to the workforce”. Recognising into account the Company’s current position is formed of two parts: a self-assessment theCompany’s contractual commitments and principal risks. This assessment considered bybusinesses and functions of compliance tothe Chief Executive, the Remuneration both the Company’s long-term prospects with the Operational Framework; and a Committee has taken an equitable and also its ability to continue in operation report showing their assessment of key approach to this matter. At the beginning and meet its liabilities as they fall due over risks. Twice a year, the line leaders for our of2020 the Chief Executive’s company its five-year business planning period. business and the heads of our functions pension contribution was frozen at the then arerequired to critically analyse compliance Analysis of Business Prospects monetary value (at which point it was equal relative to a scoring framework, which sets The Board has considered the long-term to 19% of his base salary), recognising that clear standards against which compliance prospects of the Company based on our it would thereafter reduce over time to the must be assessed. Line and functional strategy, markets and business plan as weighted average of employer contribution leaders are required to assure themselves outlined on pages 14 to 34 of this report. rates for active members across all UK ofthe level of compliance for a business, Inits strategic review of the Company, pension schemes. As at 1 January 2022, and submit supporting information and theBoard recognised the importance hispension contribution had reduced to data to provide evidence of compliance. ofcertain factors that underpin its long- 16.4% of his salary, whereas the weighted term prospects and viability. In summary, average of UK active pension scheme The output from the OAS process is these are: | members was estimated to be approximately | reviewed by (and subject to challenge | | | --- | --- | --- | | 15.4%. The Remuneration Committee has | from)the Internal Audit function relative | – a diverse portfolio of businesses based | | recently taken additional steps to ensure that | toits understanding of matters within | onwell-established market positions, | | the Company will be compliant with Code | particular businesses. In addition, the | providing both complex, high technology | | Provision 38 by December this year (see | OASrisk management process requires | products and programmes, and | | Remuneration Committee report, page 140). | thattwice-yearly the risks identified in | differentiated technical services and | | | eachof the businesses are reported against | support. In 2021, 41% of Group sales | ### Risk management and | | a set risk framework. The output from the | were product/programme related and | | --- | --- | --- | | internalcontrol statement | OAS process is provided to the Board and | 59% services and support; | | The Board is responsible for the Company’s | isreviewed in detail by the Audit and ESG | – a geographically diverse business with | | risk management and internal control | committees. The report to the directors on | ahigh proportion of sales to governments | | systems. It has delegated responsibility for | the output from the OAS process provides | and other major prime defence contractors. | | reviewing in detail the effectiveness of these | granular graphical and narrative analysis of | In 2021, 36% of sales were to the | | systems to the Audit Committee, which | compliance against the requirements of the | USDepartment of Defense, 21% to | | reports to the Board on its findings so that | Operational Framework, and as such is an | theUK Ministry of Defence and 12% | | all directors can take a view on the matter. | important part of how the Board monitors | tothe Kingdom of Saudi Arabia Ministry | | | and reviews the Company’s risk management | of Defence and Aviation. The Company’s | An overview of the processes used to and internal control systems. Further details robust order backlog continues to provide identify, evaluate and manage the principal of the Board’s monitoring and review a strong foundation for further market risks can be found on pages 104 to 113. process can be found in the Audit diversity and growth; These processes are an integral part of our Committee report on page 130. | governance framework, the Operational | | – long-term visibility of sales and future | | --- | --- | --- | | Framework, details of which can be found | The risk management and internal control | saleprospects through a substantial order | | on page 118. The Operational Framework | systems detailed in the Operational | backlog and incumbent positions on | | mandates the Operational Assurance | Framework were in place throughout the | major defence programmes; and | | Statement (OAS) process, which is owned | year and the Board, having reviewed their | – market positions underpinned by a highly | | by theCompany’s Internal Audit function | effectiveness, believes they accord with the | skilled workforce, intellectual property | | andis one of the principal processes used | Financial Reporting Council’s Guidance on | assets and proprietary know-how, which | | by the Board in monitoring the effectiveness | Risk Management, Internal Control and | are safeguarded and developed for the | | of control systems. | Related Financial and Business Reporting. | future by customer- and Company-funded | investment. Such investment is focused on a well-developed understanding of future technologies and the threat environment shaping the long-term defence and aerospace market. 122 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report | Assessment | Conclusion | Ian Tyler | | --- | --- | --- | | The Board’s assessment of the Company’s | In undertaking its review of the IBP in 2021, | In addition to being a non-executive director | | prospects was informed by the following | the Board considered the prospects of the | of the Company, Ian Tyler is chairman | | business processes: | Company over the five-year period covered | ofVistry Group plc, a listed FTSE 250 | | | by the process. On the basis of this and | company, and two unlisted companies; | Risk management process – the Company other matters considered and reviewed by Amey plc, a subsidiary of Ferrovial, S.A., has developed a structured approach to the Board, the Board has reasonable aSpanish listed company; and Affinity themanagement of risk (see above) and expectations that the Company will be able Water Limited. On 1 January 2022, he emerging and principal risks identified are to continue in operation and meet its wasappointed a non-executive director considered as part of the Board’s annual liabilities as they fall due over the following ofAnglo American plc, a major UK review of the Integrated Business Plan. five years. It is recognised that such future listedcompany. Integrated Business Plan (IBP) – the IBP assessments are subject to a level of The Board has reviewed Mr Tyler’s time represents a common process with standard uncertainty that increases with time and, commitments and is satisfied he has outputs and requirements that produces therefore, future outcomes cannot be sufficient time to meet his responsibilities anintegrated strategic and business plan guaranteed or predicted with certainty. toBAE Systems. The Board also considered forthe Group and also for each of its Also, this assessment was made recognising his cross-directorship with Stephen Pearce, businesses over the following five years. the principal risks that could have an impact adirector of Anglo American plc and a Theuse of a five-year period provides on the future performance of the Company non-executive director of the Company, arobust planning tool against which (see pages 104 to 113). andagreed that this did not affect their long-term decisions can be made concerning, independence. Having served for nine years ### amongst other things, strategic priorities, Going concern statement on the Board, Mr Tyler will stand down with addressing the Group’s stated net zero Accounting standards require that directors effect from the close of the Company’s target and climate-related risks and satisfy themselves that it is reasonable for AGM on 5 May 2022. opportunities, funding requirements them to conclude whether it is appropriate (including commitments to Group pension to prepare financial statements on a going Dame Elizabeth Corley schemes), returns made to shareholders, concern basis and the Code requires that, Dame Elizabeth Corley, a non-executive capital expenditure and resource planning. ifappropriate, this report includes a director, was appointed a non-executive Longer-term strategic inputs also form statement to that effect. Following review, director and Chair designate of Schroders partof the IBP process and, where activity the directors have concluded that it is plc on 1 September 2021. Schroders are isrequired to meet such long-term appropriate to adopt the going concern ashareholder in the Company, holding priorities, this is provided for in the plan. basis for these financial statements and approximately 1% of the total share have not identified any material uncertainties votingrights as at the date of this The detailed plan is reviewed each year concerning the Company’s ability to do report.Consequently, an assessment bythe Board as part of its strategy review soin the 12-month period from the date wasundertaken prior to her appointment process. Once approved by the Board, the ofapproving them. toassess whether this relationship IBP provides the basis for setting all detailed couldhave a bearing on her independence financial budgets and strategic actions For this reason, they continue to adopt for the purpose of Provision 10 of the Code. across the businesses, and is subsequently thegoing concern basis in preparing It was agreed that the number of shares used by the Board to monitor performance. theaccounts. held by Schroders was not sufficiently Liquidity analysis – the Company’s ### Directors material to have a bearing on her liquidity is underpinned by an undrawn independence. The Company was also In compliance with the Code, all committed Revolving Credit Facility of £2bn made aware of steps that would be taken directorsare subject to annual re-election contracted to April 2025, and is available by Schroders to avoid a conflict of interest byshareholders. The Board considers all tomeet general corporate funding with regard to any shares they may hold ofthe non-executive directors named on requirements. The Board regularly reviews inBAE Systems plc. pages 116 and 117 of this report to be an analysis based on the financial output independent for the purposes of the Code. Dame Elizabeth Corley is also a non-executive from the IBP, looking at the forecast director of Morgan Stanley, a US-listed working capital requirements, cash flow, Prior to making Board appointments, company, and one of its UK subsidiaries and committed borrowing and other theBoard considers other demands on an provides broking services to the Company. funding facilities available to the Company individual’s time to ensure that, following An assessment was also undertaken to over the five-year period covered by the IBP. appointment, directors have sufficient assess whether this relationship would This analysis includes ‘stress testing’ of the timeto meet their Board responsibilities. havea bearing on her independence. Company’s liquidity under severe, but Non-executive directors are required to seek Afterreview, it was determined that it was plausible, scenarios as developed from prior approval before taking on additional not a material business relationship given theIBP, including the following: external appointments. The Board also the relative low value of the contractual – the Company being unable to access debt considers whether there are any potential arrangements and the nature of the markets to renew term debt facilities; conflicts of interest that could have a relationship, i.e. broking services as provided bearing on a non-executive director’s – an unfavourable change to the terms of by a UK subsidiary of Morgan Stanley, and independence pursuant to Provision 10 trade the Company enjoys with certain her appointment being to the board of the ofthe Code. The following disclosures principal customers; and US parent company and non-executive in aremade on these matters: – the loss of a major export market. nature. Dame Elizabeth has announced thatshe will stand down from the Morgan The scenarios tested included the impact of Stanley board this year. multiple adverse factors. BAE Systems plc Annual Report 2021 123 Governance ## Board information Chairman Committee chair I Innovation and Gender Non-executive director A Audit Committee Technology Committee E N Nominations Committee Executive director Environmental, Social and GovernanceCommittee R Remuneration Committee B ### Membership and attendance Environmental, | A | | | | | | | Socialand | Innovation | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | Board | Committee | | Audit | Governance | andTechnology | | Nominations | Remuneration | | | | | meetings | membership | | Committee | Committee | Committee | 1 | Committee | Committee | | | | 2 | | | N | | | | | | | | | Sir Roger Carr | | 9/9 | | | – – – 5/5 – | | | | | | | | Nick Anderson | | 9/9 | E | I N | – 3/3 1/1 5/5 – | | | | | | A Male 9 | | | 3 | | E | N | | | --- | --- | --- | --- | --- | --- | --- | | B Female 5 | Crystal E Ashby | | 4/4 | | | – 1/1 – 2/2 – | | | Dame Elizabeth Corley | | 9/9 | A N | R | 6/6 – – 5/5 6/6 | Nationality | | | | | 4 | | I N | R | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | Dame Carolyn Fairbairn | | | 8/8 | | | – – 1/1 4/4 1/1 | | | C | Jane Griffiths | | | 9/9 | E | N | – 3/3 – 5/5 – | | | | Chris Grigg | | | 9/9 | E N | R | – 3/3 – 5/5 6/6 | | | | | 5 | | | I | N | | | B | | Ewan Kirk | | | 6/6 | | | – – 1/1 3/3 – | | | | Stephen Pearce | | | 9/9 | A | N | 6/6 – – 5/5 – | | | | Nicole Piasecki | | | 9/9 | E | I N | – 3/3 1/1 5/5 – | A Ian Tyler 9/9 A N R 6/6 – – 5/5 6/6 Charles Woodburn 9/9 – – – – – Chief Executive A UK 9 Brad Greve 9/9 – – – – – Group Finance Director B US 4 Tom Arseneault 9/9 – – – – – C Australia 1 President and Chief Executive Officer of BAE Systems, Inc. Ethnicity | | 1. The Committee’s inaugural meeting was held | The average length of appointment of non-executive | | --- | --- | --- | | B | inOctober2021. | members of the Board (as at 31 December 2021) | | | 2. Sir Roger Carr joined the Board in October 2013 | wasfouryears. | andwasappointed as Chairman in February 2014. The average length of appointment of executive 3. Appointed on 1 September 2021. membersof the Board (as at 31 December 2021) 4. Appointed on 1 March 2021. wasthreeyears. 5. Appointed on 1 June 2021. Skills and experience A Risk management 15 A White 13 B Black 1 Long-term contracting 36 Legal and regulatory 3 3 Tenure – independent International business/commercial 311 non-executive directors Human capital management 1 0 Financial/accounting 7 1 C | | | Environmental and social | 5 0 | | | | | --- | --- | --- | --- | --- | --- | --- | | | | Engineering, science and technology | | 7 2 | | | | B | A | Company leadership | | 7 3 | | Executive | | | | Board experience | | | 10 0 | | A Up to three years 7 B Over three and up to six years 1 C Over six years 3 BAE Systems plc Annual Report 2021124 Non-executive Financial statementsGovernanceStrategic report ## Nominations Committee report ### Dear Shareholders Ewan Kirk will chair a new committee established in 2021, the Innovation During 2021, the Nominations Committee andTechnology Committee, which spent time dealing with both long-term and willallow non-executives to engage shorter-term succession planning priorities, indeveloping adeeper understanding all based on a well-developed understanding ofthetechnologies shaping our future of the future skills and experience required andsupport the Board inmaking sound for both executive and non-executive decisions in this area. members of the Board. In particular, all directors appreciate that executive succession Given the very significant size and planning for the most senior roles in the importance of our US business, I am Company – and that of the Chief Executive pleasedthat we were able to increase in particular – is one of our highest priorities. thenumber of Americans on the Board ### Sir Roger Carr withthe appointment of Crystal E Ashby Board changes ### Chairman of the asa new non-executive director. She brings As detailed in last year’s Annual Report, a wealth of experience, gained in a complex ### NominationsCommittee Dame Carolyn Fairbairn and Ewan Kirk global business, having had a long career joined the Board as non-executive directors with BP America. Until recently, she spent on 1 March and 1 June 2021 respectively. some time as the interim President and Members Iam also delighted that, in the second half Chief Executive of the Executive Leadership Sir Roger Carr (Chairman) of the year we were able to appoint Crystal Council – a non-profit organisation that Nick Anderson E Ashby to the Board as a non-executive supports inclusive leadership principles Crystal E Ashby director, with effect from 1 September. andthe development and advancement Dame Elizabeth Corley Dame Carolyn has a deep understanding ofblack executives. Jane Griffiths ofbusiness and government, having been Chris Grigg During 2021, the Committee continued Director General of the CBI, prior to joining Ewan Kirk touse the services of Julia Budd at the the Company and having also enjoyed a Stephen Pearce search consultants Russell Reynolds long business career before that. Dame Nicole Piasecki Associates to assist in identifying Carolyn will succeed Ian Tyler shortly as Ian Tyler suitablecandidates for appointment chair of our Remuneration Committee, a totheBoardasnon-executive directors. role she is well qualified for based on her Theyprovide other recruitment services business and board experience, including tothe Company but are not connected chairing and serving on the remuneration toany individual director. committees of other UK listed companies. We announced at the end of last year As we are a technology company, it thatIan Tyler would be standing down isessential that the Board has a good fromthe Board as a non-executive director understanding of the key technologies at the close of the Company’s AGM in thatwill be critical to our future success and Maythis year, having served for nine years. how workplace culture is critical in supporting Ian has been an excellent non-executive the development of new technology and director, chairing both the Corporate allowing innovation to flourish. Within the Responsibility and Remuneration senior executive team, we have a deep Committees during his time on the Board. understanding of the future capabilities our Looking ahead, the Board will also be customers will require and the technologies losingthe valuable services of Chris Grigg, that underpin them, but the Board anon-executive director andour Senior recognised a particular needto enhance Independent Director, who is planning thelevel of technological awareness within tostep down at next year’s AGM. The the non-executive members. That led us Committee will be looking to appoint an toappoint Ewan Kirk as a non-executive additional non-executive director during director. He has extensive experience 2022 to maintain the strength of the inidentifying and leveraging emergent non-executive presence on the Board, scientific research and know-how, and andwe are well advanced in this process. insight into the successful commercial exploitation of innovative technologies. BAE Systems plc Annual Report 2021 125 Governance ## Nominations Committee report continued ## Board Diversity ## andInclusion Policy Diversity and inclusion Board composition It is the Board’s aim to continue to meetthe targets set by the Hampton- We are committed to maintaining The Nominations Committee, on Alexander and Parker reviews, dealing adiverse and inclusive Board. As a behalfofthe Board, undertakes a formal, with gender and ethnic diversity company we value diversity and are rigorousand transparent approach respectively. The Board will maintain committed to creating a diverse and tosuccession planning for director oversight of the range of activities the inclusive working environment for appointments. The Nominations Company is pursuing aimed at increasing our employees, in which colleagues Committeeoversees the development the diversity of our workforce – including from any background can fulfil their andimplementation of succession plans the executive pipeline that is essential for potential. This is reflected in our fordirectors and senior managers. executive director succession planning. clear purpose, values and the Appointments and succession plans Inaddition, when we engage search behaviours that guide our culture. arebased on merit and objective criteria, consultants, we will use their services to The Board understands that reflecting the skills, knowledge and help identify a diverse range of potential diversity is a key attribute to its experience needed to ensure we have a non-executive director candidates and, effectiveness. We aim to maintain well-rounded, diverse and effective Board. where necessary, to help with executive adiverse Board, including, among In the case of non-executive directors, director succession requirements. other attributes, an appropriate otherrelevant matters are also taken into Reporting balance of nationalities, gender, account, such as independence and the ethnicity, skills, knowledge, ability to fulfil time commitments. The Nominations Committee will ensure experience and personal strengths. that there is continued appropriate and Due to the nature of its activities, the meaningful disclosure in the Company’s UKgovernment holds a Special Share in Annual Report against the matters set theCompany, ensuring that the Company out in this policy. cannot be non-British controlled. The Special Share also includes provisions requiring that a majority of the Directors on the Board are British nationals and the roles of Chairman and Chief Executive are also subject to UK nationality restrictions. Succession planning In last year’s report I provided details of the While the Nominations Committee is actions taken by the directors to retain the focused principally on appointments to the The Committee has adopted a policy on services of the Chief Executive, which had Board, we appreciate that the quality of the diversity and inclusion in respect of the asignificant impact on the Remuneration executive pipeline is critical to the long-term Board (it is produced in full above). This Report vote at our 2021 AGM. I and the success of any succession planning process. isaligned with our Company Purpose and Remuneration Committee consulted The Chief Executive, with the support of Strategic Objectives, and details specific extensively with shareholders prior to and ourGroup HR Director, is responsible for objectives on Board composition. I am after the 2021 AGM. The Board was very executive development and succession pleased to report that, as at the end of appreciative of the support it received from planning across the Group. During the year, 2021 and at the date of this report, we shareholders in passing the resolution with the Committee undertook a major review of havemet our objectives concerning gender a majority of more than three-quarters. the output from this company-wide process. and ethnic diversity – and, consequently, Wedo however recognise that some Overall, it was clear that we have a good theBoard meets the recommendations shareholders had particular concerns about executive succession planning process, and, ofboth the Parker and the Hampton- the matter. In responding to the outcome importantly, succession is being actively Alexander Reviews. ofthe resolution, the Board committed to managed by the senior executive team, to undertaking additional work on long-term achieve the desired long-term outcomes. succession planning across the Company’s senior executive population and will continue to engage with our shareholders to maintain a productive and open dialogue on this matter. 126 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report The key observations from the Committee’s With regard to non-executive succession Concluding comments review of the succession plans for the planning, with Ian Tyler due to retire in During the last few years, we have been 11 members of the Executive Committee May,the Committee will look to recruit through a period of change with regard atthe time of the review (three being anadditional director during the year. As tothe membership of the Board, both executive directors of the Company) were: we have reported previously, I am planning executive and non-executive. Following on stepping down from the Board next – 16 new successor candidates had been that, we have a strong, refreshed team year– by which time I will have completed added to the plans and nine removed, thatbring a complementary combination nine years in the role of Chairman. The with improved identification ofcandidates ofskills, experience and knowledge to the Committee, led by Chris Grigg, our Senior lower down within the organisation and board table. We are also an increasingly Independent Director, has taken the first alarger pool of candidates (55 to 64); and diverse team, which adds real value when it steps in initiating a search for my successor, – the level of gender diversity continues to comes to the different perspectives we are and appointed the search consultants improve (39% to 41%) and the average able to bring to bear in our deliberations. Spencer Stuart to assist with the task. age of successors has reduced (44 to 42). ### Theyprovide other search consultancy Sir Roger Carr Our Chief Executive announced a number services to the Company but have no ### Chairman of the of changes to the Executive Committee connection with any director. ### NominationsCommittee recently. These changes are the visible Board Evaluation signsof good succession planning in At the beginning of 2021, the Board practice andare indicative of the actions completed an internally-facilitated being takento identify, develop and performance evaluation, the key findings promote high-performing individuals. from which were reported in last year’s TheBoard is also pleased to see the increase Annual Report. With regard to what we in the level of diversity in the Executive didlast year, having identified these Committee, with the position improved objectives, I can report the following: interms of both ethnic and gender diversity– 21% of members are women Executive succession – as detailed above, (8%at the end of 2021 and 2020). Also, this was a key focus last year. women comprise 39% (2020 37%) of Environment – the Environmental, Social theCompany’s senior management, and Governance Committee Report provides i.e.Executive Committee members, the more detail on what we did last year as a Company Secretary and their first reports. Board to ensure that we remain focused on Unlike many companies, nationality and delivering against our sustainability agenda. national security restrictions apply to many Our 2030 greenhouse gas net zero target executive roles in BAE Systems. National isatthe heart our environmental strategy security considerations are most likely to andduring the year the whole Board took apply to line management positions, where part in an externally facilitated session, to the highest levels of national security develop the directors’ understanding of clearance are often required. Almost climate transition risks and opportunities. uniquely for a major listed company, Evolution of strategy – as reported thenationality of our Chief Executive is elsewhere, progress has been made in specifically mandated by the Company’s developing our strategy which is driving Articles, which, through the Special Share investment in our future, particularly in owned by the UK government, require multi-domain digital technologies, space thatthe Chief Executive is a British national. and sustainability solutions. Last year the Similarly, the US national security Board held in-depth strategy sessions, arrangements governing our US business reviewing progress in these areas and the effectively limit the senior line leadership investments we are making in innovation positions to US nationals. These national (see Our investment in technology on security considerations are an important page34). part of being a defence company but they inevitably restrict the pool of candidates Efficiency and effectiveness – recognising that can be considered for some of the the importance of continually improving our most important line management roles, operational efficiency, last year, the Board andtherefore form an additional level through the Remuneration Committee, ofcomplexity for the Committee. incentivised this specifically with the addition of a Return on Capital Employed metric. In addition, the Board has been monitoring improvements in profit margin – a key measure of efficiency given the nature of the Company’s business. The Board has just concluded its 2022 evaluation, which was undertaken by an external facilitator, Independent Board Evaluation. Further details of this evaluation are provided on the next page. BAE Systems plc Annual Report 2021 127 Governance ## Nominations Committee report continued ## The Nominations Committee’s year January March July October December Committee Committee Committee Committee Committee ## Board evaluation 2021/2022 ### Evaluation provider Board Feedback The evaluation was undertaken by – Shareholders: oversight and relationship A comprehensive report evaluating the Independent Board Evaluation (IBE), – Strategy: oversight and implementation Board’s performance was produced by ledbyFfion Hague. IBE is astandalone IBE,which was provided to Directors – Governance consultancy of independent practitioners, aheadof the Board meeting held on – Board focus and priorities, use of time | working solely on board effectiveness | | 23 February 2022. The principal findings | | --- | --- | --- | | reviews. IBE do not provide other services | – Risk management | and recommendations from the report | | tothe Company and have noconnections | – Succession planning for key board and | werepresented to the Board by Ffion | | with any of the directors. | management roles | Hague. The report provided feedback | ontheareascovered by the evaluation. – Composition of board – skills, diversity ### Period of evaluation Reports were also provided to each and experience The evaluation was undertaken in the ofthecommittees on the findings from – Employee engagement period between November 2021 and theevaluation as they apply to them. February 2022 with the report being – Selection and induction of new members TheChairman will provide feedback presented by IBE at a meeting of the – Meetings: frequency, quality, duration fromthe evaluation to individual directors. Boardheld on 23 February 2022. The Senior Independent Director will – Quality of papers and presentations provide feedback on the Chairman’s ### Scope – Resourcing levels: timeliness of papers, ownperformance after he has met with support functions The evaluation comprised a formal allthe non-executive directors to consider andrigorous annual evaluation of the Board committees the report provided by IBE. performance of the Board, its committees, – Membership: skills, experience, ### the Chairman and individual directors. Key resulting actions competence and induction Succession planning – continue to focus ### Evaluation process – Meetings: frequency, quality, duration on executive development and succession The findings of the evaluation were – Chairmanship planning and provide the Board with principally based on information gathered – Clarity of objectives and terms of opportunities to engage with high- through a series of structured interviews reference potentialindividuals. undertaken by Ffion Hague and held with all the directors, Company executives that Chairman Culture – ensure that we continue to evolve support the Board and its committees, the culture of the Company to reflect wider – Quality of contribution andalso certain individuals from outside society and drive the pace at which we aim – Board leadership theCompany that attend Board committee to meet our diversity and inclusion ambitions. – Independence and objectivity meetings on a regular basis. Also, IBE Strategy – engage further indeveloping undertook a data-based benchmarking – Understanding of own/others’ roles ourunderstanding of the keyattributes and exercise reviewing the Boardrelative to – Chairing skills technologies required forthe long-term similar sized companies inthe FTSE 100 – Agenda setting success of the Company. andalso the companies in the Aerospace – Time commitment Employee engagement – ensure that &Defence sector. wemaximise opportunities for directors to Individual Board members Ffion Hague was an observer at engage directly with employees and develop oneoftheBoard’s scheduled meetings – Quality of contribution further the means by which Board members andalso at meetings of the Audit, ESG – Skills, experience, competence receive direct feedback from our workforce. andNominations committees. – Time commitment Induction – ensure that the induction The evaluation covered a wide range – Quality of perspective brought process for new non-executive directors is ofmatters including the following: toBoarddiscussion tailored to individual needs and that, post pandemic restrictions, such directors have the opportunity to visit our sites and learn more about the business. 128 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Audit Committee report IT security remains a major focus for all During the year under review we considered corporates with escalating levels of threat the potential impact on the Company of on the one hand and increasing regulatory thevarious proposals set outinthe BEIS and customer expectations on the other. White Paper ‘Restoring trustin audit and Aswell as receiving feedback from internal corporate governance’. Preparations are assurance and external audit on IT security ongoing for the potential introduction of controls during the year, we also held a anew regulatory regime and we await session with the Chief Information Security tosee the output of the government’s Officer for UK and Rest of the World and deliberations sothat any relevant action the Senior Vice President – Chief Information required can beconsidered. Officer of our US business. At this session, External audit they discussed key cyber risks as well as Deloitte LLP was originally appointed by the outlining their roadmaps for protecting ### Stephen Pearce shareholders in 2018 as our external auditor theGroup and complying with regulation, ### Chair of the and has just completed the fourth year of recognising that the IT security environment ### AuditCommittee itsfirst five-year cycle. is continuously evolving. In June we agreed the scope and level Pensions has also been a major area of ofmateriality of the 2021 audit plan of focus for the Company in the last few Members work and discussed with Deloitte the areas years,with the consolidation of six of the Stephen Pearce (Chair) that they had identified as key risks and Group’s nine UK pension schemes having Dame Elizabeth Corley other particular areas of focus, and the been effected in 2019, followed by a Ian Tyler specific audit procedures that they would contribution of £1bn into the consolidated perform to undertake the related audit pension scheme in 2020. The focus in 2021 work. The scope of work agreed was has been on enhancing the governance broadly consistent with the prior year but framework around the Group’s pension was augmented to take account of the investment management activities on which integration into the Group of the Military we have received regular updates on Global Positioning System business acquired progress from the Group Finance Director. in 2020. At the beginning of the year we took a The agreed scope also encompassed close look at the evolving requirements consideration of the embedding of fordisclosure on Environmental, Social controlsand risk assessment processes andGovernance (ESG) issues, particularly 1 relating to climate change, as well as inrespect of climate change and TCFD consideration of the impact of climate reporting requirements, reviewed actions change throughout the financial statements being taken to address this, and agreed ### Dear Shareholders and the enhancement of disclosures for inprinciple the areas for further disclosure 1 | | | TCFD | reporting requirements. | | --- | --- | --- | --- | | I am pleased to present the Audit | in the 2021 Annual Report. This has | | | | Committee’s report for the financial year | included enhanced linkage between | | | Audit independence ended 31 December 2021. Resilience built theStrategic report and the Financial We have reviewed in detail the confirmation into the business in the early stages of the statements. The draft disclosures were and information received from Deloitte on global pandemic in 2020 has stood the subsequently reviewed at a joint session the arrangements that they have in place Group in good stead throughout the year with the ESG Committee. Further detail tosafeguard auditor independence and under review, and to date in the current onclimate risk and opportunity scenario objectivity, which are consistent with the year. The Group continues to deliver on planning is set out on page 38. The ethical standard published by the Financial itscustomers’ critical programmes and InternalAudit function has increased its Reporting Council (FRC), including specific toprogress strategic priorities against the level of assurance activity in the ESG sphere, safeguards in place where they are providing backdrop of the ongoing global pandemic and plans to build on its existing capability permissible non-audit services to the Group. and associated global macro challenges. in 2022. The Committee has been briefed by The elements which comprise the The Internal Audit Charter was reviewed Deloitteon proposed key partner changes Company’s system of internal controls bythe Committee during the year and a necessitated by regulatory rotational –primarily the Operational Framework; number of amendments were incorporated, requirements at the end of the fifth year mandated reviews that provide visibility including, amongst other things, more ofDeloitte’s tenure, subject to Deloitte’s ofbusiness performance; the Operational explicit references to risk management, audit appointment continuing after that Assurance Statement (OAS) process; theThree Lines Model of assurance, point. A successor has been proposed as andindependent assessment of the andESG-related risk. lead US partner and selection processes effectiveness of internal controls – have Finally, I commented in last year’s report forthree other key partner appointments, continued to operate throughout the that the Committee was mindful of the including that of the lead engagement COVID-19 pandemic. | | changing governance landscape and | partner, will be undertaken in the first | | --- | --- | --- | | The section on the Audit Committee’s year | potential weight of anticipated regulation | halfof 2022. | | on page 133 provides an overview of the | inthe near future, given the number of | | | work that we have undertaken in the last | recent formal reviews undertaken regarding | | | 12 months and I will comment here on | different aspects of Corporate Governance | | | various aspects of that activity. | and Audit Market Reform. | | 1. Task Force for Climate-Related Financial Disclosure. BAE Systems plc Annual Report 2021 129 Governance ## Audit Committee report contin ued Non-audit services policy The Committee’s review of the – LCM – the bedrock of our programme effectivenessof internal controls has execution and management, LCM is The Committee has a formal policy encompassed a review of the reports integralto the successful execution of governing the engagement of the auditor relating to the six-monthly OAS, which are theGroup’s projects and programmes, toprovide non-audit services, which we submitted by each business or function as andof particular importance in the early review on an annual basis. The policy amandated policy under the Group-wide identification of programme risk and prohibits certain activities from being Operational Framework. thedetermination of profit recognition undertaken by the auditor and also places orprovisioning which tend to be areas restrictions on the employment of former Documentation of the governance changes where judgement is required to be employees of the auditor. originally implemented in response to exercised. At the current time, when COVID-19 in 2020 continued throughout The policy permits the provision of theGroup has several large programmes the year under review and acted as a Audit-Related Services and Permitted inrelatively early stages, adherence to recordof management response and Non-Audit Services up to limits that are LCMmethodology is vital to ensure timely expected control. pre-approved by the Committee, with delivery, at target or better margins. Other control reports, and reports specific approvals required beyond such – General IT controls – the importance fromboth internal and external auditors, limits by the Committee. Such approvals ofa strong IT control environment is supported the Audit Committee’s arekept to a minimum and relate to work acknowledged and remediation is a key assessment of the control environment. which, by its nature, is most appropriately focus where testing has identified that carried out by the auditor. We have discussed the outputs of improvement is required. financial,IT and Lifecycle Management A copy of the policy is available on the – Cyber risk – remains a key focus for (LCM) controls testing, and any required Company’s website. manycorporates. The IT assurance and improvement actions, with management, governance programme has been further Details of fees payable to the auditor are and internal and external audit, with a matured over the year with input and setout on page 211. In 2021, non-audit viewto ensuring the ongoing robustness support from the Internal Audit function. | feesfor Deloitte represented 5.3% of the | ofthe financial and operational | | | --- | --- | --- | | audit fee. The principal non-audit service | environment, programme execution | – Export controls compliance – the | | provided by Deloitte related to their review | andriskmitigation. Areas of specific | Group General Counsel has kept us | | of the Half-yearly report. | focushave included the following: | up-to-date during the year with | ongoingdevelopments in the export – General financial controls – the Review of audit independence control compliance programmes and continuing importance of a robust andeffectiveness enhancements to existing procedures. financecontrol environment, The scope and output of our annual review particularlyin the light of the Audit We have reviewed the ongoing effectiveness of the independent effectiveness of the andCorporate Governance Reform of the Company’s risk management 2021 audit is set out below. changes, is recognised with processes as part of our wider review of Audit Quality Review (AQR) benchmarking of assurance internal controls. More detail on processes practicesunderway. The FRC’s AQR team monitors the quality of to manage risk, and the Group’s principal audit work of certain UK audit firms through risks,is setout on pages 104 to 113. inspections of a sample of audits and related procedures at individual audit firms. Deloitte has provided us with the findings How the independence and effectiveness of the external audit process wasassessed from its latest firmwide AQR report, the initiatives being taken in respect of the Who we surveyed: The output of the review was positive firm’s evolution of its firmwide audit with the external auditor having delivered – Senior executives, including approach and methodology, and how those an effective audit, providing robust and keyfinanceroles are transferred into the BAE Systems’ audit. constructive challenge, as well as – Internal Audit Director balanced and knowledgeable debate, Internal control and risk Areas we covered: anddemonstrating both its commitment The Board has delegated to the Committee to continuous improvement as well as – Commitment to audit quality responsibility for reviewing in detail the continuing to build on its knowledge effectiveness of the Company’s risk – Technical knowledge ofthe Group’s business and key risks. management and internal control system. – Professional scepticism and Areas for focus in 2022 will be on It is recognised that remote working and robustnessof challenge thecriticality of continuity of audit social distancing have placed strain on – Understanding of industry and teamsto ensure audit quality and, where established processes and procedures. businessrisk changes are made to audit personnel, Asthe businesses responded to the ongoing inthe provision of effectively managed – Understanding of our internal impact of COVID-19, external assurance handovers and briefing, particularly in controlsystems providers, the Company’s own assurance theapproach to the first cycle of – Quality of communications teams and Internal Audit focused on partnerrotation. monitoring the continuing effectiveness of – Level and quality of resourcing On the basis of the review following the Company’s control environment. In this – Commitment to improved standards the2021 year-end audit, the Committee connection, areas for the various assurance as well as interaction with the has proposed to the Board that it teams included health, safety and wellbeing, Committeemembers. recommends that shareholders support cyber security, financial controls (including there-appointment of Deloitte LLP procurement), and export controls. atthe2022 AGM. 130 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report A small number of audits have been How the Committee assesses theindependence and effectiveness of Internal Audit postponed or cancelled, and new audits Who we survey: Areas for feedback include: ofhigher priority brought into the plan. Thereview of governance and controls – Group-wide heads of Audit – Role of Internal Audit hascontinued, mostly virtually, through ReviewBoards andindependence Quarterly Business Reviews and Audit – Other business leaders – Audit planning, processes Review Boards (ARBs). Examples of good andexecution Audit Committee members have practice have been collated by Internal alsoinput into the review. – People resources and capabilities Auditand shared with the businesses – Communications and reporting asappropriate. The 2022 audit programme will continue toprovide assurance over the Group’s The Committee has also met with the As well as financial and export controls, risks,with an increased focus on IT security Director of Insurable Risk to receive an safety, IT and IT security, programme and ESG. update on work undertaken to review execution and operational excellence Internal Audit is running a programme theGroup’s insurance programmes and continue to be areas of focus for assurance ofcontinuous improvement relating to toagree the approach to insurance work. A rolling three-year flexible internal itspurpose, people and processes. The renewalin current market conditions. audit programme has been developed programme was informed by the results andmapped against the Group’s overall Internal Audit ofthe 2018 External Quality Assessment strategic priorities and risks, and those of Internal Audit plays an integral role in (EQA) undertaken by Ernst & Young LLP the businesses. The aim is to enable Internal theCompany’s governance structure and (EY), and the progress review undertaken Audit to take a greater thematic approach provides regular reports to the Committee with EY in 2020. Data Analytics has to audits at Group level, whilst retaining on its assessment of governance and progressed well, with new insights found flexibility aligned to business dynamics controls across the Group. These include inthe financial controls area, in addition andemerging risk. anoverview of the work undertaken in toassurance work in respect of the The three-year programme is prepared by usualfinancial controls framework audit. theperiod under review, individual reports Internal Audit using a risk-based approach. on audits conducted, progress against the The workplace climate assessment The programme for the year ahead is agreed agreed internal audit plan and the tracking framework, introduced last year, has jointly by the Audit and Environmental, of remedial action in the case of any control beenembedded into all audits, enabling Social and Governance Committees to failures. Internal Audit also reports the Internal Audit to gain insight into the culture ensure that the overarching programme outputs of the twice-yearly OAS process. of the businesses and the opportunity to covers not only financial and business risk, Specific attention has continued to be paid assess culture by reference to the but also the assessment of effectiveness during the year to ensure governance and Company’s purpose, values and Code of inESG-related areas including, for example, controls have been maintained during the Conduct. As well as generating specific safety, ethical and reputational risk, product COVID-19 period. recommendations, over time this should trading, diversity and inclusion, and We also hold an annual session with allow Internal Audit to identify relevant environment. The assurance programme theUSInternal Audit lead and this year trends in culture to bring to the attention comprises a broad range of audits covering were pleased to meet with the new ofthe Audit Committee. areas such as mandated governance, VicePresident, Internal Audit, to discuss OASoutputs, risk register findings, change The implementation of a new Audit thescope, environment and priorities for programmes, structural, business and Management System is well underway, internal audit work undertaken within regulatory changes, and areas relating allowing Internal Audit not only tomanage theUS businesses, including key business toresponsible behaviour and non-financial its own work more efficiently, but also risk, the levels of resourcing available to risk. Internal Audit may also from time improve how the individual businesses undertake the programme of work and totime undertake other work within interact with Internal Audit toreview specific challenges stemming from the thecontext of the risk environment. relevant recommendations. ongoing COVID-19 environment. In addition The majority of the 2021 internal audit The majority of EQA actions are now closed, we were briefed on the development of planwas delivered remotely but with some however Internal Audit has identified other strategic objectives for the US Internal on-site fieldwork taking place in the second continuous improvement activities to ensure Auditfunction, and steps being taken to half of the year. On-site fieldwork is likely audit services continue to align with best externally benchmark the function against togradually increase over the course of practice. The next EQA is expected to be US corporate peers. | | 2022. The intangible benefits of meeting | undertaken in 2023. | | --- | --- | --- | | During the year under review, and separate | face-to-face are without doubt important | | | from the normal regular sessions we hold | | Results from the 2021 internal annual | and Internal Audit is therefore aiming to with the Internal Audit Director without evaluation were positive, with all achieve a balance of remote and on-site management present, the Committee held respondents believing that Internal Audit audits that continue to be of high quality, a separate session with him, a senior plays an integral role in assuring the whilst responding to the needs of member of his team and the external governance of the Group. Areas for further individualbusinesses. | auditor. The wide-ranging discussion at | development include ensuring that the audit | | --- | --- | | thisyear’s session included the direction | approach continues to adapt to address | | ofthe potential changes to UK financial | evolving business risk and opportunity, and | | controls; information technology and cyber | optimises the balance between compliance | | security controls; safety and its associated | and potential future risk assurance. These | | culture; and how assurance is being | will be considered in Internal Audit’s | | provided against the culture of the Group | functional improvement activity for 2022. | more broadly. BAE Systems plc Annual Report 2021 131 Governance ## Audit Committee report contin ued Financial statements How we ensure that the Group’s Annual Report, taken as a whole, is fair, balanced The Committee reviews all significant and understandable and provides information necessary for shareholders to assess issuesconcerning the financial the Company’s position and performance, business model and strategy statements which include the going concern and viability statement. The process is: – comprehensive guidance issued to all the contributors at operational level; The Committee agreed the parameters of,and subsequently reviewed the – a verification process dealing with the factual content of the reports; supporting report for, the going concern – comprehensive reviews undertaken at different levels in the Group that statement (see page 123) and the aimtoensureconsistency and overall balance; and statementon the Board’s assessment of – comprehensive review by the directors and the Executive Committee. theprospects of the Company (see the viability statement on pages 122 and 123) over the five-year period used in the | Integrated Business Plan. The Committee | Recognising the scale of the Group’s | Whilst tax policy is ultimately a matter for | | --- | --- | --- | | considered the period covered by the | pension obligation, we reviewed the | the Board’s determination, we reviewed the | | viability statement, and whilst a number | keyassumptions supporting the valuation | Group’s tax strategy as set out on page 75. | | ofcompanies have elected to use a | ofthe post-employment benefit obligation. | Twice during the year, we reviewed the | | three-year horizon, we continue tobe of | This included a comparison of the | Group’s tax charge and tax provisions, | | theview that a five-year period remains | discountand inflation rates used against | anddiscussed these with the Group Tax | | themost appropriate timespan for this | externally-derived data. For the UK deficit, | Director. We also reviewed the basis of | | Group given our business planning cycle | the Group adopted in 2021 the CMI | recoverability of the deferred tax asset | | and the long-term nature of a number | 2020 Mortality Projection tables, with a | relating to the Group’s pension deficit. | | ofour programmes. | scheme-specific assessment of the potential | Asreported at the half-year, a one-off | | | impact of COVID-19. We reviewed the | taxbenefit of £94m was recognised in the | In assessing going concern and viability, methodology used to allocate a proportion period, in respect of agreements reached theCommittee has considered cash flow of the post-employment benefit obligation regarding the exposure arising from the projections and timings, which include to equity accounted investments and April 2019 European Commission decision assumptions, as far as they can be made, concluded that this was appropriate with regarding the UK’s Controlled Foreign inrespect of COVID-19 and climate change, reference to agreements between the Company regime. with related sensitivity analysis and stress Company and those companies. We also testingscenarios, borrowing facilities Review considered the adequacy of disclosures available to the Company and covenants. Finally, as a Committee we benefit from inrespect of the sensitivity of the deficit Other related issues such as credit ratings early sight of the draft Annual Report for tochanges in these key assumptions are also considered. our reviewwhich gives us an opportunity (seenote 24 to the Group accounts In addition to the going concern and toconsider whether, taken as a whole, onpages 241 to252). viability statement reviews, the principal itisfair, balanced and understandable. Goodwill matters we considered concerning the Thewider process is set out above. 2021 financial statements were: Impairment testing of goodwill on the Alternative Performance Measures (APMs) balance sheet is underpinned by the value Recognition of revenue, profit As reported last year, the Committee of the future prospects of the related andprovisioning agreed that, for its 2021 reporting cycle, business, which have to be estimated. The estimation of contract margin and theGroup would adopt an Underlying thelevel of revenue and profit to recognise We considered the level of goodwill held EBITprofitability measure in place of the in a single accounting period requires the onthe Group’s balance sheet and whether, previously reported Underlying EBITA exercise of management judgement. given the future prospects of the acquired measure, as it reflects a better measure businesses, the value of goodwill held ofunderlying profitability. The calculation The Committee reviewed key estimates onthe balance sheet remains appropriate. ofthe Group’s Underlying earnings per andjudgements applied in determining Nogoodwill impairments were made as share measure would also be updated to thefinancial status of the more significant aresult of this review. ensure consistency with the Underlying programmes including Type 26 frigate EBITmeasure. andUS Land Programmes. The methodology for impairment testing used by the Group is set out in note 8 to This year a financial glossary has been Pensions theGroup accounts on pages 217 to 220, included in the Annual Report to provide a Accounting for pensions and other including disclosures on Cash Generating composite explanation of APM content, and post-employment benefits involves making Units and their assumptions. the respective prominence given to IFRS estimates when measuring the Group’s measures and APMs has been considered. Taxation retirement benefit obligations. These | estimates require assumptions to be made | Computation of the Group’s tax expense | Looking forward, and as highlighted | | --- | --- | --- | | about uncertain events, such as discount | and liability, the provisioning for potential | earlierin this report, a key focus for the | | rates, inflation rates and longevity. | tax liabilities and the level of deferred tax | Committee in 2022 will be addressing the | | | asset recognition are underpinned by | various regulatory initiatives flowing from | | | management judgement and estimation | the UK government’s stated aim to reform | | | ofthe amounts that could be payable. | the corporate governance and audit regime. | ### Stephen Pearce ### Chair of the Audit Committee 132 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## The Audit Committee’s year February May June July October November December Committee Committee Committee Committee Committee Meeting Committee Committee composition andevaluation The composition of the Audit Committee is stated on page 129 and the breadth of experience of the Committee members is set out onpages 116 and 117. The performance evaluation of the Committee is undertaken as part of the wider annual Board evaluation and theBoard believes the Committee to have the appropriate composition, skills and experience to discharge its responsibilities. Competition and Markets Authority Audit Order The Committee has complied with the provisions of the Competition and Markets Authority Audit Order in respect of committee responsibilities and audit re-tendering disclosures. The last audit tender undertaken concluded with the appointment of Deloitte LLP in May 2018. ## February June October ### Videoconference Videoconference London, UK Committee Committee Committee – Reviewed the financial statements – Agreed external audit strategy and scope. – Received presentations from the Chief andspecific disclosures, including – Reviewed external auditor independence. Security Information Officer, UK and viabilityand going concern, for RoW, and the SVP – Chief Information – Agreed external audit engagement recommendation to the Board. Officer, BAE Systems, Inc. on cyber letterand fee. – Received a presentation from the Group security evolution and controls. – Considered any emerging accounting Financial Controller and Group Treasurer issues prior to the half-year. ## in respect of work supporting the viability November – Considered the potential impacts ### and going concern statements. London, UK ontheCompany of the proposals – Considered the accounting, financial Meeting intheBEIS consultation. control and audit issues reported – Considered output of the Internal – Informal meeting with the Internal Audit bytheexternal auditor that flowed AuditDirector’s report. Director and external auditor todiscuss a fromtheauditwork. – Received a presentation from VP, range of issues as detailed on page 131. – Reviewed the effectiveness of the InternalAudit, for the US businesses. externalaudit process. ## – Reviewed the Non-Audit Services Policy. December – Received a report from the Group ### – Reviewed nature and value of Videoconference TaxDirector. non-auditservices. Committee – Reviewed external auditor independence – Considered any emerging accounting and nature and value of non-audit services. ## July issues prior to the year end. ### Joint session with the Environmental, Videoconference – Considered the external auditor’s Socialand Governance Committee: Committee controlsreport. – Considered output from the six-monthly – Reviewed the financial statements and – Discussed the external auditor’s OAS review. specific disclosures, including going concern, proposalsfor the rotation of key partners. – Reviewed the procedures and outputs for recommendation to the Board. – Considered output of the Internal forthe identification, assessment and – Received a presentation from the Group AuditDirector’s report. reporting of risk. Financial Controller and Group Treasurer – Received a report on export | – Agreed final iteration of the 2021 | in respect of work supporting the going | controlcompliance from the Group | | --- | --- | --- | | InternalAudit programme. | concern statement, together with an | General Counsel. | | – Considered development of ESG-related | update on viability. | – Set the parameters for work | | disclosures, including climate change | – Considered the accounting, financial | supportingthe viability and going | | andTCFD reporting requirements. | control and audit issues reported | concernstatements. | | | bytheexternal auditor that flowed | – Received technical accounting and | | May | fromthehalf-year review work. | financial reporting updates. | | Videoconference | – Received a report from the Group | – Discussed the first iteration of the | | Committee | TaxDirector. | 2022Internal Audit programme. | | | – Received a presentation from the | – Reviewed the Internal Audit Charter. | – Reviewed the AGM Trading Statement. Director,Insurable Risk – Considered enhanced governance – Undertook a review of the effectiveness – Considered output from the of the Internal Audit function. proposals for the Group’s UK pension six-monthlyOAS review. investment management activities. – Reviewed the Committee’s Terms – Reviewed the procedures and outputs ofReference. forthe identification, assessment and – Reviewed external auditor independence reporting of risk. and nature and value of non-audit services. – Reviewed external auditor independence and nature and value of non-audit services. The Committee holds a quarterly session with the Internal Audit Director and external auditor without management present. The Audit Committee Chair also meets with the Group Finance Director, the Internal Audit Director and the external auditor on an ad hoc basis. BAE Systems plc Annual Report 2021 133 Governance ## Environmental, Social and Governance ## Committee report ### Dear Shareholders The Board has the responsibility to ensure that climate-related risks and opportunities When I wrote to you last year, I stated are appropriately addressed. We understand thatin addition to keeping the impact of that without effective climate governance COVID-19 on our stakeholder groups under structures, it will be difficult to make review, our priorities were to monitor our informed strategic decisions, manage progress against the net zero target, and climate transition risks and monitor the continue to focus on health and safety associated metrics to achieve our climate- performance, and on diversity and inclusion. related goals. The Committee supports In this report, I hope to provide an overview theBoard in overseeing the progress of the workings and discussions of the oftheexecutive in ensuring that the Committee in 2021. Companytakes an integrated, strategic During the year, we welcomed Nick approach to addressing climate transition ### Jane Griffiths Anderson and Crystal E Ashby to the risks and opportunities. ### Chair of the Committee. Our refreshed composition In order to effectively discharge our ### Environmental,Social and provided an opportunity to review the oversight duties, we regularly engage with, ### GovernanceCommittee Committee name, Terms of Reference and challenge members of the executive andour employee engagement approach. team – the Chief Executive, President and At our meeting in February, we reflected CEO of BAE Systems Inc., Group Finance Members onthe evolution of activities formally Director, Group General Counsel and Group Jane Griffiths (Chair) described as Corporate Responsibility, to Human Resources Director are invited to Nick Anderson amore integrated approach, which focused attend all the meetings of this Committee. Crystal E Ashby environmental, social and governance Additionally, we receive updates from Chris Grigg (ESG)themes as the building blocks to the internal subject matter experts, and training Nicole Piasecki creation of long-term sustainable success from PwC partners, with climate-related for the Company. We considered that expertise. We do this in order to develop totruly succeed, these activities must be and maintain our collective understanding embedded and confirmed as integral to the and awareness of climate change as it Company and the remit of the Committee pertains to the Company. These insights should reflect this. Accordingly, in July, inturn, allow us to oversee the work of theCommittee changed its name from theexecutive team, who are responsible theCorporate Responsibility Committee, forthe operational management of climate tothe Environmental, Social and Governance transition risks and opportunities. Committee, to reflect the intrinsic nature of In 2020, the Company set a target ESG themes to good governance practice. ofachieving net zero greenhouse gas | We also reviewed the Committee’s Terms | emissions across its operations by 2030 | | --- | --- | | ofReference, and sought to codify our | andduring 2021, and at our February | | responsibilities in respect of monitoring the | andJuly meetings, we received updates | | Company’s progress against its net zero, | onthe progress against this target. In | | decarbonisation strategy, and more broadly, | September, the Board received training | | to reflect the work of the Committee within | fromPwC on sector-specific climate matters | | recent years. The revised Terms of Reference | which supported the development of our | | of the Committee may be found on the | understanding regarding The Financial | 1 Company website . Stability Board’s Task Force on Climate- Related Financial Disclosures. During 2022, Environment and climate transition we will continue to work with external and The Board oversees, through the Committee, internal subject matter experts, to develop the Company’s ESG performance. We our understanding of climate change, monitor the Company’s performance against emerging climate risks and opportunities. selected external sustainability indices and review its performance on ESG matters. Climate change is one such matter and theCommittee oversees the Company’s response in respect of its own impacts on the environment and its response to the potential impacts of climate change on the Company’s future and current operations. 1. https://investors.baesystems.com/~/media/Files/B/Bae-Systems-Investor-Relations-V3/PDFs/board-committees/ esg-committee-terms-of-reference.pdf 134 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report Workforce engagement Through our employee engagement Health and safety framework, we maintain an overview of Following the publication of the Financial The safety and health of our workforce theperspectives of the global workforce. Reporting Council’s findings on Workforce isapriority and in 2021, we regularly The mix of data and engagement with Engagement, we reviewed contemporary reviewed global safety performance. It was employees, operational and senior employee engagement practices and disappointing to see that the year began management, provide different lenses effectiveness of the model adopted by with poor safety performance in Q1 but which in turn are represented at the Board theCompany. wewere glad to see continued improvement table. This allows us to have meaningful throughout the year. In 2021, the Group had In accordance with Provision 5 of the conversation about how strategic decisions a recordable injury rate of 493 (485 in 2020) UKCorporate Governance Code (the Code), may affect members of the global and had 32 (37 in 2020) major injuries. the Board is required to maintain an effective workforce. From 2022, in addition to Wenoted that, there were operational mechanism to engage with the workforce. myCommittee report to the Board, I will initiatives to reverse the recordable injury In 2019, the Board agreed that the most provide a separate employee engagement rate but there was a lack of clarity as to the appropriate and effective method of update, to ensure the employee voice root cause. Further work was undertaken undertaking employee engagement was for andtheir considerations continue to be bythe executive team, which subsequently the Committee to take up this responsibility. represented during boardroom discussion. reported that the increase in injuries was | This decision was made on the basis | As a result of COVID-19 restrictions | largely due to theprimary focus of the | | --- | --- | --- | | thatengaging with employees had been | duringthe year, the Committee was limited | businesses being on COVID-19 safety and | | apart of the Committee’s activities since | on opportunities for physical employee | the associated restrictions such as mask | | itwas established. The non-executive | interaction but below are the details of | wearing. There was also evidence that | | membership of the Committee met the | discussions regarding workforce matters | changes in the workplace may have | | same independence criteria as appointing | and where we were able to meet with | distracted employees from traditional | | asingle non-executive director, as proposed | employees physically in 2021. In 2022, | safetymessaging. | | in the Code. The size and complexity of the | wewill continue to build on our employee | | The introduction of behaviour-based business, with 89,600 employees across engagement programme and will approach workplace safety programmes has provided more than 40 countries, meant that there our workforce engagement thematically, a more consistent framework against which were practical advantages to the role being focusing on elements of environment, social to monitor outcomes, compare sectoral performed by more than one director. (safety, diversity and inclusion, community performance and provide better visibility engagement etc) and governance, to lead The Committee reflected on the changing ofnear-misses and opportunities to our engagement with the workforce. | nature of employee engagement, particularly | developproactive reporting. During the | | --- | --- | | in light of the COVID-19 pandemic and the | year, communications were also refreshed | | efficacy of our employee engagement | to re-emphasise safety practices, and we | | framework. We agreed that the Committee | were pleased to see safety performance | | was still best placed to undertake employee | improve from Q2. | engagement on behalf of the Board, as the reasons outlined above were still applicable. ### Employee engagement framework Workforce matters Culture Business conduct Hear from executives on employee matters Senior Diversity and inclusion such as safety, wellbeing, diversity and executives Environment inclusion and company decisions that Health and safety could impact employees. ### Operational Workforce interaction by Review employee sentiment managers ### andwellbeing surveys and membersof the Committee otherdata sources evidencing April employee views. Visit to Warton and Samlesbury Direct Learn from operational engagement May management teams on the Visit to Portsmouth practical application and impact of workforce policies. September Visit to Govan Direct engagement with groups of employees. October Data Video messages November Visit to Govan to attend COP26 Throughout the year Attendance at the CEO/TU forums BAE Systems plc Annual Report 2021 135 Governance ## Environmental, Social and Governance ## Committee report continued In respect of mental health and wellbeing, We learned that in support of this ambition, Product trading and we were pleased to learn that the Company work was underway to review recruitment controversialweapons had partnered with a specialist company practices and provide training to line The Group General Counsel gave a briefing inthe UK, Unmind, to provide employees managers, in order to mitigate against on the application of the Group’s Product with access to mental health resources. affinity and other unconscious biases and Trading Policy and the Group’s Responsible better embed inclusive practices across Safety performance is a non-financial Trading Principles. The Product Trading Policy theCompany. The Committee will continue component of the annual incentive plan requires an evaluation on all BAE Systems’ monitoring the Company’s efforts to forsenior executives. The Committee sets, products and trading, and applies throughout increase diversity across the Group and measures and determines the level of theproduct lifecycle and to all global progress against its global ambition. performance achieved against the safety linesof business where the Group has objectives and makes a recommendation The Group’s performance on diversity acontrolling interest. tothe Remuneration Committee. andinclusion is a non-financial component We also discussed the Company’s of the annual incentive plan for senior In 2021, safety was included as an approachto controversial weapons executives. As with the safety component, underpinor gateway to the overall award andnoted that the Responsible Trading the diversity and inclusion objectives, ofthe non-financial element of the Principles ensure that in addition to operate as a downward underpin to Executive Bonus. commercial assessment, consideration theincentive, if performance is not wasgiven to wider ESG concerns. As part Diversity and inclusion attheexpected levels. We believe this ofthis discussion, we were informed of demonstrates that good performance The Company values diversity and is theCompany’s commitment to cease isexpected rather than rewarded. committed to creating a diverse and handling white phosphorus. inclusive working environment, in which The Committee sets, measures and Looking forward allcolleagues from any background can determines the level of performance fulfil their potential and this is reflected I look forward to 2022, and subject to achieved against these objectives and inour clear purpose, values and the restrictions, continuing to engage with makes a recommendation to the behaviours that guide our culture. members of the global workforce, in Remuneration Committee. accordance with our employee engagement During the year, we heard from the Group In 2021, the executive annual incentive programme. The Committee will continue Human Resources Director, who explained planmeasures were based on: to oversee the Company’s climate transition that the Company had recently launched – increasing the representation of women strategy and its progress against its net aglobal ambition to be recognised as the at senior levels in the Company; and zerotarget. leading employer in defence and security – driving inclusion through leadership ### sectors for valuing diversity and promoting Jane Griffiths andengagement. ### inclusion. This ambition is underpinned Chair of the Environmental, Social withthe following targets: | | We were pleased to see that the 2021 | and GovernanceCommittee | | --- | --- | --- | | – increase gender diversity on the | datahighlighted a 0.5% increase in female | | | ExecutiveCommittee (EC) to ensure | representation at all levels across core | | | thatwomen account for 50% of | functions, and that there was less | | | ECmembership by 2030; | femaleattrition. | | – continue to progress ethnic diversity The executive annual incentive plan inorder to be representative of the includesthe following objectives for 2022: ethnicities within the localities which – attract and retain a diverse workforce theCompany operates; and thatreflects market availability at all – continue to progress gender diversity levelsof the organisation; and toensure that women to account for – advance an inclusive workplace where 30% of the UK workforce by 2030. leaders can retain key talent effectively and employees feel that their differences are valued and intentionally leveraged. As a Committee, we will continue to challenge the executive team on the paceofchange, review the actions and initiatives to drive and deliver a diverse andinclusive workforce. 136 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## The Environmental, Social and Governance Committee’s year February July September Committee Committee Committee | February | July | September | | --- | --- | --- | | Videoconference | Videoconference | London, UK | | Committee | Committee | Committee | | – Received an overview of the lobbying | – Received an update on the progress | – Reviewed the Operational Assurance | | activity of the BAE Systems USA Political | against the 2021 diversity and | Statement process and the audit and | | Action Committee. | inclusionobjectives. | assurance landscape during the year. | | – Received an update on the Company’s | – Performed a deep dive on the Group’s | – Received a briefing on the application | | environment and climate transition – | safety performance to date. | ofthe Group’s Product Trading Policy | | netzero programme. | | andthe Company’s Responsible | – Received an update on the Company’s TradingPrinciples. – Reviewed the Company’s community environment and climate transition net andsocial impact within Barrow. zero programme. – Discussed the Financial Reporting Council’s findings on Workforce – Reviewed the 2020 safety and diversity – Proposed a revision to the Committee Engagement and reviewed the evolution and inclusion performance in respect titleand Terms of Reference. of employee engagement practice and ofthe outcomes of the annual effectiveness of the model adopted incentiveplan. bythe Company. – Agreed the 2021 objectives and annual incentive targets in respect of safety, anddiversity and inclusion. – Joint meeting with the Audit Committee to review non-financial risk register. ## Schedule of activities in 2022 ### January June December – Review of 2021 performance metrics – Review of anti-bribery and – Review of Advisers Policy corruptionprocesses – Anti-bribery and corruption – Environment – Environment – Diversity and inclusion – Society and community – Society and community – Safety performance – Employee engagement – Employee engagement – Annual incentive plan outcomes – Workplace and stakeholder – Safety and wellbeing engagement plan – Annual incentive plan objectives – Product trading – Annual incentive plan objectives ### February – Diversity and inclusion – Review of 2021 performance metrics ### September – Environment – Application of the Product – Society and community TradingPolicy – Employee engagement – Environment – Review of Advisers Policy – Society and community – Review and approval of Modern – Employee engagement Slaverystatement – Safety and wellbeing BAE Systems plc Annual Report 2021 137 Governance ## Innovation and Technology Committee report | Dear Shareholders | Membership | | --- | --- | | I am delighted to present the first report of | The Committee is comprised of four | | the Innovation and Technology Committee. | non-executive director members; | | The Committee was established by the | NickAnderson, Dame Carolyn Fairbairn, | | Board in July 2021. We held our inaugural | Nicole Piasecki and myself. More details | | meeting in October wherein we discussed | ofmembership and attendance at meetings | | the innovation and technology landscape | can be found on page 124. The Committee | | inthe Company’s principal markets | issupported by members of the senior | | (excluding the US). | executive team; the Chief Executive, | GroupFinance Director, Chief Technology In this report, I will give you an overview of Officer and Group General Counsel are the Committee’s remit and in the years to allstanding attendees. come, I will provide updates on Committee ### Ewan Kirk activities and an overview of our discussions. National security ### Chair of the Innovation and In recognition of national security Role of the Committee ### TechnologyCommittee considerations, the Committee focuses The Committee’s purpose is to promote principally on the UK business. Much of the thesuccess of the Company through the intellectual property and know-how owned Members effective oversight of the application of by the Company is subject to national science, engineering and technology, and Ewan Kirk (Chair) security laws and regulations, as a result, the successful exploitation of its intellectual Nick Anderson our site visits and discussions of such property and know-how in pursuit of its Dame Carolyn Fairbairn technologies are undertaken in accordance business and commercial goals. Nicole Piasecki with the national security requirements of Through closer engagement with senior the UKand other nations. executives, we will support and enhance In particular, the Committee is cognisant theCompany’s ability to meet its strategic ofand observes the requirements of objectives, and assure ourselves that BAESystems, Inc.’s Special Security therearein place; an appropriate culture, Agreement. infrastructure, collaborative practices ### andactivities that stimulate innovation. Ewan Kirk ### We will do so by: Chair of the Innovation ### andTechnologyCommittee – reviewing the allocation and prioritisation of R&D funding; – overseeing of Company processes to identify, develop and exploit technology and intellectual property; and – maintaining strategic oversight and awareness of STEM developments, asapplicable to the Company. To support us in the developing of ourunderstanding of the Group’s technology landscape, we will regularly visitglobal sites, meeting with employees and managers, and discussing central andsectoral opportunities. ## Schedule of activities in 2022 ### March June September – Site visit – Site visit – Site visit – Central themes – Central themes – Central themes – Sectoral focus – Sectoral focus – Sectoral focus – Deep dive – Deep dive – Deep dive 138 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Remuneration Committee report the Chief Executive. This included a rigorous 2021 incentives outcome analysis of key executives identified as possible After the close of 2021, the Committee met ‘ready now’ successors for each of these roles. and reviewed performance under theshort- Recently, the Chief Executive made a number term annual incentive for all the executive of changes to the Executive Committee that directors and Executive Committee members. evidence the focus being applied to succession The Committee hasnot made any adjustment planning and leadership development. Further to the performance conditions in respect details of the work undertaken on succession ofthe vesting outturn of the 2021 annual planning have been provided in the Nominations incentive or 2019 long-term incentive awards Committee report on pages 125 to 127. to account for the impact of COVID-19. Group | | The ongoing impact of the COVID-19 | financial results for the 2021 annual incentive | | --- | --- | --- | | | pandemic on our workforce was at the | were achieved at stretch; performance for the | | | forefront of directors’ minds during the year. | non-financial element varied for the executive | | Ian Tyler | When spending time developing its wider | directors and Executive Committee members | | | understanding of workforce pay and | and was between target and stretch overall. | ### Chair of the conditions during 2021, the Committee was ### RemunerationCommittee The Committee used its judgement in keen to understand how the Company was evaluating non-financial performance, including maintaining its focus on employee wellbeing. the executives’ commitment to the shared Whilst the remit of the Committee is focused strategic objectives, safety, diversity and Members on executive directors and senior executives, inclusion, as well as overall leadership Ian Tyler (Chair) we do that in the context of the intrinsic link contributions. A discussion of that evaluation between Company performance and the Dame Elizabeth Corley and the bonuses earned by the executive contribution of the workforce as a whole. Dame Carolyn Fairbairn directors is reported on pages 157 to 159. Through the Committee’s oversight of share Chris Grigg | | plans, it determines the level of award made | The Performance Shares granted in 2019 | | --- | --- | --- | | | toover 47,000 employees that participate in | totwo current directors, Charles Woodburn | | | the Group All-Employee Free Shares Plan. | and Tom Arseneault, and also to Peter Lynas | | | Thisplan has operated for a number of years | and Jerry DeMuro, two former directors, | | | with the level of annual award determined | under our long-term incentives will partially | | | using the same financial metrics as used for | vest in early 2022. In addition, the 2019 | | | the executive annual incentive plan. Based on | Restricted Shares granted to our US-based | | | last year’s strong performance, the Committee | executive director will vest. The awards due | | | has agreed that the participants in the plan | toPeter Lynas and Jerry DeMuro were | | | will receive an equal share of the overall profit | subjectto time pro-rating as fully disclosed | | Dear Shareholders | pool of £28.7m, awarded in Company shares | inlast year’s Report. | | On behalf of the Board, I am pleased to present | – one of the highest levels of award made | | The Performance Share awards made in the Remuneration Committee’s report for 2021. since the plan was introduced in 2008. 2019were, in equal part, subject to TSR and The Company proved to be robust and EPS performance conditions. The Committee Before dealing with the Committee’s year in resilientin 2021, delivering another year confirmed that 15.8% of the award subject more detail, there are a few matters I would ofstrong performance – thanks to the tothe TSR condition will vest. With regard like to highlight by way of introduction. outstanding efforts of our employees who tothe half of the award subject to the As disclosed in last year’s Committee report, EPSperformance condition, the Committee have continued to work with enthusiasm and with the support of the Board, the Committee considered the principles and practice that determination in the face of ongoing adversity. agreed certain one-off and exceptional should apply in determining the outcome The safety and wellbeing of our employees remuneration arrangements to secure the ofthis award. remained a primary consideration as the continued services of our Chief Executive. Company continued to address and meet Whilst the underlying earnings of the Those changes were an important part of customer requirements, in an ever-evolving Groupwere particularly strong in 2021, the2020 Directors’ remuneration report as environment. The Committee will maintain theCommittee nevertheless continued putto shareholders at the Company’s AGM itsoverview of wider workforce matters during itspractice of reviewing all non-recurring in2021. The resolution was passed with over 2022 and, where applicable, consider these itemsto determine whether they should three-quarters of votes cast in favour and aspart of its deliberations on executive pay. beincluded or excluded in determining the theCommittee was very appreciative of the The year in review outcome of the EPS performance condition. support the resolution received but respects the views of those shareholders that had Impact of COVID-19 pandemic In summary, the principles the Committee particular concerns about the matter. The adopts in making such judgements are Whilst the pandemic has continued to Chairman and the Committee undertook asfollows: challenge all businesses, BAE Systems has anextensive consultation with investors prior proved to be robust and resilient in rewarding – one-off events are individually assessed to to the AGM on this matter and maintained our stakeholders through strong operational determine whether they impact earnings engagement on governance matters during performance, delivering good financial and performance outturn calculations both the remainder of 2021. | | outcomes. Last year we continued to pay | positively and negatively; | | --- | --- | --- | | Our engagement provided the Board and | dividends in line with our usual practice, did | – inclusion of one-off profits must be linked | | Committee with a clear understanding of | not take advantage of the UK government’s | togenuine management endeavour and | | theongoing support for the current senior | funded furlough scheme, nor any government | demonstrable achievement of value for | | executive team, but also, inter alia, focused | COVID-19 borrowing facilities and did not raise | shareholders and other stakeholders; | | onthe importance of, and challenges around, | additional equity. In making remuneration | | – where management recognise risk and robust succession plans. This was a key focus decisions in relation to 2021, the Committee, consider a provision to be appropriate and for the Remuneration and Nominations whilst mindful of the impact of the ongoing supportable, they should not be penalised committees – and also the whole Board – pandemic, will again make no allowance for ifsubsequent events allow such provisions throughout 2021. The Board completed an these additional challenges when assessing to be released,and that is not recognised in-depth review of the succession plans for theperformance and reward outcomes for intheunderlying numbers; allExecutive Committee level roles, including theexecutive directors. BAE Systems plc Annual Report 2021 139 Governance ## Remuneration Committee report continued | – windfall profits are not acceptable for, | b. Property disposal – during the course | However, the Committee remains sensitive | | --- | --- | --- | | andwill not be included in, remuneration | ofthe year, management completed a long | toshareholder and broader societal concerns, | | outcome calculations and the Committee | and demanding negotiation for the sale of | and overall believes it is appropriate to adjust | | will assess any one-off profit to determine | property at Filton and Broughton, delivering | executive director salaries in line with the | | ifit, in full or in part, is considered to arise | aone off profit of £182m. The Committee | broader workforce in the relevant markets | | from a windfall event; and | regarded this disposal as a significant | (2.5% in the UK and 3.75% in the US), and | | | management achievement and exercised its | atthe lower end of wage inflation, with | – any discretion exercised by the Committee discretion to include the profit achieved in effectfrom 1 January 2022. must be in keeping with agreed policy and 2021 earnings in determining the performance reported fully and transparently in order to In applying these increases, the Committee outcome. This transaction has delivered secure shareholder support. isacutely aware that there are clear and significant additional liquidity to the Group significant external challenges in retaining In keeping with the principles, the Committee and thereby increased optionality in terms ourkey talent. Where necessary and made the following judgements in relation offuture capital allocation. No allowance for appropriate, and in particular where base tothe outturn of the EPS element of the thisreduction in ongoing profits associated salary increases are not keeping pace with Performance Share awards: with lost rental income will be made in theexternal market, we will look to address 1. Currency determining future performance. The value these challenges. This is something we will In line with the terms of the award and ofthis adjustment was 4.6p per share. bekeeping under close scrutiny. Wemust thediscretion provided to it, the Committee Having thoroughly reviewed annual and make sure we are well placed to retain key agreed that the principle of constant currency three-year performance, and the related individuals whose performance has helped should be used. This will ensure that the remuneration outcomes, the Committee drive the strong results we have seen in calculation of EPS is not affected by currency issatisfied that the Policy operated as recentyears, and whose retention is critical exchange rate fluctuations, upwards or intendedduring 2021. todelivering the strategic changes that will downwards, from one financial year to the underpin our long-term success. next. In recent years, the impact of currency Granting of long-term incentives fluctuations on the outturn of the EPS result CEO pension provision Last year, in relation to the grant of the 2021 has not been sufficiently material to warrant long-term incentive awards, the Company The Committee recognises the requirements adjustment. However, in respect of 2021 the followed its normal practice of using the closing ofinstitutional investors and the UK Corporate impact was more material and therefore the share price immediately prior to the date of Governance Code to align executive director Committee determined that constant currency grant to determine the number of shares pension contributions with the wider should be used as the basis for calculating EPS awarded. However, given the volatility in the workforce level. Since 2020, the Chief over the performance period. Consequently, market, we attached an additional condition Executive’s pension has been fixed at the the baseline target from which performance to retain the ability to exercise discretion to monetary value of £186,200 per annum. over the three-year period was measured was ensure that the value of the awards in three Thisis equivalent to 16.4% of his 1 January 0.6p per share lower than if an actual currency years’ time at vesting is appropriate. 2022 salary, and represents a continued move basis had been applied. towards the level of employer contributions 2022 remuneration | 2. Discretionary judgement | | based on a weighted average of UK active | | --- | --- | --- | | The Committee chose to exercise its judgement | To confirm, for 2022 no revisions are proposed | pension scheme members which we currently | | over two items of ‘one-off’ events. It should | to our executive remuneration framework that | estimate at approximately 15.4%. | | be noted, however, that the achievement of | would constitute a change to our approved | | The Committee recognises that, on this basis, the Stretch targets for long-term incentive 2020 Remuneration Policy. In line with our alignment will take a number of years to outcome purposes was only 0.8p short of commitment to continued transparency, achieve but understands that many institutional theStretch target and, as such, recognition wehave engaged with our major shareholders investors expect to see such alignment by ofonly an element of one of these items on the decisions made, changes proposed theend of 2022. As such, the Committee wassufficient to achieve full vesting of the andmatters considered by the Committee. hasapproved, and the Chief Executive has 2019 awards. It should also be noted that Looking ahead, the Committee will this agreed, a reduction to the monetary value of ifthe Committee had not exercised the EPS yearbe reviewing the Policy ahead of seeking his pension contribution such that with effect element of the two discretions detailed below, shareholder approval for its renewal at next from 1 December 2022 he will be aligned with 84.0% of this element of the award would year’s AGM. As part of that exercise, we that wider workforce figure. Thereafter, we stillhave vested. | | willbe considering how we can best align | will review this every three years (in line with | | --- | --- | --- | | The two items where the Committee | executive remuneration with the Company’s | the renewal of our remuneration policy) and | | exerciseddiscretion were as follows: | strategic needs and objectives, and also | make any adjustments as may be necessary | | a. EU State Aid – a tax risk was identified | considering changing dynamics of the current | tomaintain alignment. | | in2019 of £92m when the EU contended | employment market and the need to stay | | Environmental, Social thatthe Group had been in receipt of state ahead in attracting and retaining talented individuals. We look forward to sharing and andGovernance(ESG) aidprovided illegally by the UK government. | Management made a full provision against | engaging with shareholders on any changes | As we have set out in this Annual Report, | | --- | --- | --- | | profits in 2019 and pursued a challenge | we propose making to the Policy in advance | oursustainability vision has included setting | | tothedecision thereafter. Management | ofthe 2023 AGM. | atarget of achieving net zero greenhouse | | endeavour achieved a decision that the | | gasemissions across our operations by 2030, | Review of executive director base salaries Grouphad not been in receipt of state aid joining the United Nations ‘Race to Zero’ In making salary remuneration decisions, the campaign, gender diversity ambition of 50% and, as a result, the full amount of the Committee has considered carefully business of our Executive Committee members to be provision, together with an additional £2m and individual performance, skills, the scope women by 2030, commitment to cease charged in 2020, was credited to profits in ofthe role and the individual’s time in role, handling white phosphorous, and gaining 2021 to offset the charge against profits made aswell as relevant market data for similar roles accreditation as a real living wage employer. in previous years. The Committee considered and the salary increase available to the wider While ever-evolving, ESG themes are not new this decision to be a fair and appropriate workforce. Externally, the current uncertain to BAE Systems, and the Committee is pleased adjustment and encouraged provision economic outlook caused by the ongoing to be able to confirm our approach to ESG recognition when appropriate andsupportable pandemic and inflationary pressures – the metrics within our remuneration framework. and rewarded successful outcomes when result of a tightened labour market and war achieved. The value of thisadjustment was ontalent – have been an added focus in 2.9p per share; and ourdeliberations. 140 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report Annual incentive plan strategic progress, Earnings per Share (EPS) Committee is engaged in ensuring the wider and relative Total Shareholder Return (TSR). workforce remuneration, succession pipeline, In respect of 2021, both safety and diversity and incentives are creating an environment were set as qualifiers to the overall award TSR will be measured against a single where our most talented employees are being ofthe non-financial element of executive comparator group with no change to the recognised and given greater responsibilities directors’ bonus. In other words, good performance requirements. During 2021, – and differences in individuals are valued. | performance is expected in these areas | theCommittee further reviewed the TSR | | | --- | --- | --- | | ratherthan rewarded. Key strategic objectives | comparator group and agreed that, for | In addition to developing the overall Directors’ | | specifically set within the non-financial | futureawards, the constituent companies | Remuneration Policy and framework, the | | element (25% of overall bonus) related to | ofthe FTSE 100 would serve as the most | Committee assesses the level of challenge | | employee engagement, delivery of the next | appropriate peer group, on the basis that | within our annual and long-term incentive plan | | phase of the net zero plan and driving an | itprovides a more stable, relevant and | targets. Annually, in November, the full Board | | inclusive culture. Performance against these | transparent group against which to assess | reviews and adopts the Integrated Business | | elements is determined by the ESG Committee | relative performance. | Plan. Thereafter, the Committee reviews | | with the2021 outturn reported on page 157. | | thespecific business targets/metrics for the | As a point of detail, at the end of March 2021, one- and three-year periods and engages During 2021, the Company incorporated performance share awards were granted using inadiscussion regarding the underlying themanagement of material ESG risks and a TSR comparator group based on a defined assumptions, including the degree of stretch opportunities into our long-term strategy. subset of the FTSE 100 index. However, having contained within them. After setting one- and Tosupport the focus on our sustainability subsequently agreed and recognised the clear three-year targets, the Committee periodically agenda, the Committee has approved specific benefits of moving to a simple full FTSE 100 reviews progress towards the attainment of quantifiable and appropriate metrics within comparator group – and also recognising the the objectives. After the close of each year, the the key strategic objectives set for our short period of time (less than two months) Committee undertakes a thorough review of executive directors in 2022. These metrics that had elapsed since the granting of the annual and three-year performance. | relate to establishing plans to deliver our | 2021 awards – at a meeting held at the | | | --- | --- | --- | | netzero target, demonstrating clear further | beginning of May 2021, the Committee | As a Committee, we will continue to look | | improvement in our key safety indicators, | agreed that this simpler comparator should | ahead to 2022 as another year in which | | progress in our employee engagement and | beused for the 2021 performance share | westrengthen our framework on pay for | | culture, and improvements in our governance | awards as well as for future awards. | performance. As previously stated, our | | and ESG ratings. The safety and diversity | | Directors’ Remuneration Policy is due for | Benefits review | underpin to the non-financial element of | | renewal at the 2023 AGM. The Committee | | --- | --- | --- | | executive directors’ bonus will remain in 2022 | As part of a broader review of our benefits | hascommenced a reassessment of the | | and requires our executive team to uphold and | provision, a new online benefits platform | effectiveness of our current approved Policy | | deliver our commitment to high standards of | (called FLEX) was launched in the UK during | and will also use this as an opportunity to | | safety and a diverse and inclusive workforce. | 2021. FLEX provides employees with access | include ESG-related performance conditions | | Details of these metrics will be disclosed | and flexibility to proactively manage their | into our long-term incentives. | | retrospectively in the 2022 Annual Report. | ownportfolio of benefits, including private | | As part of this, we recognise and acknowledge medical insurance, health benefits and broader Long-term incentives the real and significant challenges being guidance (financial, health and wellbeing). Key ESG risks have been integrated into the presented in the retention and attraction of Similarly, in the US, several self-service systems Company’s long-term strategy. Consequently, our key talent. Following a review of potential have been consolidated and an expanded the Committee has been considering the best options of how to address this within our ServiceNow platform has been launched. approach to incorporating these within our executive remuneration framework, the For our senior executive population, this has Committee would very much welcome your long-term incentive plans. In our discussion resulted in a number of modest changes to thoughts and the opportunity to discuss our onthis matter, we agreed the importance of ensure our benefits offering is in line with the proposals at that time. ensuring that any ESG-related performance market in which we compete for talent. These conditions are clearly aligned with our Concluding comments include the introduction of medical benefits, strategy. In particular, on climate change our an increase to the car allowance and limited The Remuneration Committee remains clearly stated goal is to develop and implement financial and tax advice support. committed to rewarding performance that a long-term strategy that reduces the impact isconsistent with promoting the long-term of our activities, supply chain and products Context to the Committee’s decisions success of the Company. Our Directors’ onthe environment. The business environment in which Remuneration Policy is designed to ensure A good deal of work is underway to develop BAESystems operates is a challenging thatour executive incentive arrangements adeeper understanding of the climate-related one.There are the geopolitical realities arecompetitive and aligned to the challenges that we, and all, companies face. oftheindustry in which we operate and Company’sstrategic goals and the interests During the year, the Committee will be thecustomers with whom we do business. ofour shareholders. The Committee is actively following this work and developing proposals Thereis the technical complexity of the engaged in monitoring performance and on robust and measurable LTIP performance workwe do and the need for constant continuing to ensure that the level of challenge conditions on climate change and other invention tomake our businesses thrive. within our annual and long-term incentive ESG-related matters. It is our intention that Thereis the competitive environment in plans remains appropriate. wewill complete the work in the current whichwe acquire and retain talent, including I do hope you find this explanation and yearand that these metrics will form part the security of ourwork. All of these factors transparency of our remuneration changes ofthe changes we will be proposing to make us mindful of the importance of a helpful. It is against this background that ourRemuneration Policy when it is put highlyskilled and experienced workforce, weask for your support when voting on toshareholders for approval next year. thatit constantly bereplenished with ourDirectors’ remuneration report at this Wewillengage further with shareholders next-generation talent, and that the year’s AGM. onthis matter. organisation be properly led and given theright performance incentives. While the On behalf of the Board Annual and long-term incentive plans Committee remains responsible for the full ### Ian Tyler There are no changes proposed to the spectrum of senior executive employment ### annualincentive plan quantum or construct Chair of the Remuneration matters, we also have a responsibility to ### for2022. Performance shares will continue to ensurethat the wider workforce across Committee be measured over a three-year period against theglobe is being treated equitably. The cumulative cash generation, a metric reflecting BAE Systems plc Annual Report 2021 141 Governance ## Remuneration Committee report continued ## The Remuneration Committee’s year January February May September December Committee Committee Committee Committee Committee Committee | January | May | December | | --- | --- | --- | | Videoconferences | Videoconference | Videoconference | | Committees | Committee | Committee | | – Assessed outturn of 2020 strategic | – Reviewed feedback from shareholder | – Reviewed and set salaries for | | objectives for executive directors and | consultation and May 2021 Annual | executivedirectors and Executive | | Executive Committee members. | General Meeting. | Committee members. | | – Agreed 2021 key strategic objectives | – Approved the Total Shareholder Return | – Agreed the approach, structure | | forexecutive directors and Executive | comparator group. | andtargets for the 2022 annual | | Committee members. | | incentiveplan. | – Received an update on performance – Received an update on provisional ofin-flight LTIP awards. – Reviewed draft 2022 strategic 2020financial performance for objectivesapplicable to executive – Received an overview of broader incentivepurposes. directors and Executive workforce remuneration. Committeemembers. ## February – Approved approach to aligning the ## September ChiefExecutive’s pension provision ### London, UK ### London, UK withwider UK workforce. Committee Committee – Received an overview of broader – Determined 2020 bonuses against workforce remuneration. – Received an external environment performance for executive directors updateon executive remuneration. – Agreed approach to development of andExecutive Committee members 2021Directors’ remuneration report. forpayment in March 2021. – Reviewed progress against Executive Committee 2021 key strategic objectives. – Reviewed level of executive directors’ – Approved 2020 Group All-Employee andExecutive Committee members’ FreeShare Plans payments. – Approved remuneration package shareholdings relative to their fornewor existing Executive – Determined vesting outcome for 2018 MinimumShareholding Requirement. Committeemembers. Spring Long-Term Incentive awards. – Approved operation of Group All- – Agreed benchmarking approach – Approved grant of 2021 Long-Term Employee Free Share Plans for 2022. forexecutive directors and Executive Incentive awards and associated Committee members. – Reviewed dilution levels and share performance targets for executive usageunder Employee Share Plans. | directors and Executive | – Approved the vesting outcome | | | --- | --- | --- | | Committeemembers. | ofthe2018 Autumn Long-Term | – Reviewed and approved changes | | | Incentiveawards. | tobenefits provision. | – Reviewed feedback from shareholderconsultation. – Approved grant of 2021 Autumn Long-Term Incentive awards. – Approved 2020 Directors’ remunerationreport. – Agreed the approach to shareholder engagement following vote on 2020 – Received remuneration analysis for Directors’ remuneration report. individuals on Executive Committee succession plans. 142 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Annual remuneration report at a glance ## for the year ended 31 December 2021 ### Business performance and incentive outcomes in 2021 | | | | | | 2021 | | 2021 | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | | performance | | incentive outcome | | | | | | 1 | AIP | | | | | | | Group underlying EPS | | | | | 50.2p | | | | | | | | | | | | | AIP Annual Incentive Plan | | | 1 | | AIP | | | | | | | Group net debt | | | | £(1,653)m | | | | LTI Long-Term Incentive | | | | 1 | AIP | | | | | | | Group order intake | | | | £21.6bn | | | | | Below threshold Average three-year diluted underlying EPS growth LTI 12.3% Between threshold and target Three-year TSR LTI 24.7% At or above target 1. Adjusted to be on a comparable basis with the targets (see page 157). Strong performance achieved against shared key strategic objectives, demonstration of leadership behaviours, and those focused on our sustainability agenda. In 2021, the requirements for diversity improvements were met but those for safety improvements were not achieved. Given the importance of safety to our Company, it was confirmed that a reduction would be applied to the non-financial element of the bonus. This resulted in the following incentive outcomes: – 2021 annual bonus payouts for the executive directors were close to maximum; and – The long-term incentive outcomes applicable to Tom Arseneault and Charles Woodburn are as follows: Performance Shares (EPS) granted inMarch 2019 achieved maximum performance and will vest at 100%. Performance Shares (TSR) granted in March 2019 achieved above threshold performance and will vest at 15.8%. ### Summary of executive directors’ remuneration in 2021 The charts below show the 2021 actual remuneration achieved, as disclosed in the single total figure of remuneration on page 155, compared with the 2021 on-target and maximum opportunity. On-target remuneration assumes target vesting of incentives payable in respect of the performance period with year-end 2021, whilst maximum remuneration assumes maximum vesting of incentives payable. Also included is the value of the actual shareholding for each executive director as at 31 December 2021 compared to their Minimum Shareholding Requirement (asset out on page 164). | | £m | £m 1 | | --- | --- | --- | | | 8.0 | 8.0 | | £6.34m | 7.0 | 7.0 | | | 6.0 | 6.0 | £4.43m 5.0 5.0 Share Options 4.0 4.0 Performance Shares Restricted Shares 3.0 3.0 Annual Incentive £1.66m Pension and benefits .0 2.0 2.0 Base Salary 1.0 1.0 Value of actual shareholding Minimum Shareholding Requirement On-target Maximum Actual Shareholding On-target Maximum Actual Shareholding On-target Maximum Actual Shareholding 2 Charles Woodburn Brad Greve Tom Arseneault Chief Executive Group Finance Director President and Chief Executive Officer of BAE Systems, Inc. 1. The figures for Tom Arseneault have been converted from US dollars to sterling. 2. Long-term incentive figures above are based on the 2019 Performance Shares and Share Options (in respect of Tom Arseneault only). For Tom Arseneault, thefigures include his 2021 Restricted Shares award(as required by regulation in the single total figure of remuneration); his single total figure of remuneration onpage155 includespro-rating of his 2019 Performance Shares and Share Option awards to include amounts in respect of his service as executive director since 1 April 2020. ### Remuneration in the wider context The Committee has responsibility for reviewing remuneration and related policies applicable to the wider workforce and the alignment ofincentives and rewards with culture, ensuring this is taken into account when setting the policy for executive remuneration. Our people are critical to building a sustainable business for the future, and it is important we evolve our employee experience to attract, retain and develop the very best talent. This reflects a culture that is inclusive, supportive and allows everyone to be their best at work and feel valued for their contribution. Within this context: – a consistent remuneration philosophy and strategy is applicable to all employees across the Group; £m – we provide our employees with competitive reward packages which reflect their individual responsibilities and contribution 8.0 tobusinessperformance; – we recognise individual and team successes through a variety of financial and non-financial recognition schemes aligned 7.0 toourfinancialand strategic objectives; 6.0 – we offer post-employment benefits aligned to competitive practice in each relevant home market; 5.0 – we also encourage employees to become shareholders in BAE Systems and, in some markets, offer share schemes to support this; – we have integrated our Behaviours (as set out on page 23) into all our people processes, to support a high-performing culture 4.0 thatdelivers our shared strategicobjectives; 3.0 – the mean pay difference between men and women across the UK workforce is 8.7% in favour of men;and 2 – the median pay ratio of Chief Executive remuneration to UK average employee is 126:1. 1.0 BAE Systems plc Annual Report 2021 143 Governance ## Annual remuneration report at a glance ## for the year ending 31 December 2022 ### Summary of remuneration framework The table below sets out the overall remuneration framework applicable to each of the executive directors under the 2020 approved remuneration policy. | | | | | Charles | | | Brad | Tom Arseneault | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | Woodburn | | | | Greve | President and | | | | | Purpose and link to strategy | | | CEO | | | GFD | | CEO Inc. | | | Base Salary | Recognise market value of role and individual’s | | | | | | | | | | | (with effect from | skills, experience and performance to ensure | | £1,135, 226 £637,755 $1,052,000 | | | | | | | | | 1January 2022) | the business can attract and retain talent. | | | | | | | | | | | Pension | Provide employment benefits and competitive | | | Defined | | | Defined | US defined benefit | | | | andbenefits | post-retirement benefits to ensure overall | | contribution | | | contribution | | and Section 401(k) | | | | | package ismarket competitive. | | | | 1 | | | | | 2 | | | | | (£186,200 | | ) | (8%salary) | | definedcontribution | | | | Annual Incentive Drive and reward annual performance of | | On-target/maximum | 112.5%/225% 80%/160% 112.5%/225% | | | | | | | | | | individuals and teams on both financial and | opportunity (% salary) | | | | | | | | | non-financial metrics, including leadership 75% financial (Earnings, cash and order intake)/ behaviours, in order to deliver sustainable Performance condition 3 25% non-financial (key strategic objectives) growth in shareholder value. Compulsory deferral into shares increases alignment Deferral into Deferred One-third compulsory deferral withshareholder interests. Bonus Plan Performance Direct financial measures of long-term Grant (% salary) 370% 335% 298% Shares earningsandcash generation that drive our financial ambitions for the Company, and 25% relative TSR/ external strategic measures including relative 25% three-year diluted underlying EPS growth/ TSR performance, aligned to the interests Performance condition 25% cash generation/ ofshareholders. 25% strategic progress Three-year performance Three-year performance conditions and Vesting conditions,vests in year 5 vestedshares releasedone-third inyears 3, 4, 5 | Restricted | Provide long-term reward through | | | | --- | --- | --- | --- | | | | Grant (% salary) | n/a 150% | | Shares | time-vesting awards principally in | | | theCompany’s US market. Three-year service condition and Vesting n/a two-year clawback period | Minimum | Provide long-term alignment with | | | | --- | --- | --- | --- | | | | (% salary) | 300% 200% 425% | | Shareholding | shareholderinterests. | | | Requirement Post-cessation shareholding 300% for 200% for 300% for requirement (% salary) two years two years one year 1. Value to be reduced with effect from 1 December 2022 to the monetary level equivalent to the weighted average of UK active pension scheme members. 2. Further detail on Tom Arseneault’s pension is provided on pages 160 and 176. 3. Shared key strategic objectives include those focused on supporting our sustainability agenda and those for 2022 are set out on pages 140 and 141. Safety and diversity underpin applies to the non-financial element with the requirement to uphold and deliver our commitment to high standards of safety and a diverse and inclusive workforce. Application of 2022 package forUKexecutivedirectors Application of 2022 package forUSexecutivedirector Performance Shares Vests in years 3,4 and 5 subject to three-year EPS, TSR,cash generation and strategic progress metrics; vested shares released in one-thirds Performance Shares Vests in year 5 subject to three-year EPS, TSR, cashgeneration and strategic progress metrics Restricted Shares Vests subject to three-year service condition with an additional two-year clawback period Compulsory bonus deferral Compulsory bonus deferral into Deferred Bonus Plan into Deferred Bonus Plan One-third deferred inshares for One-third deferred inshares for three years three years Annual Annual Incentive Cash-based element Incentive Cash-based element Two-thirds paid in cash Two-thirds paid in cash immediately immediately Base Base Salary Salary 11 22 33 44 55 YearYear Charts are illustrative and are not to scale. 144 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements # Annual remuneration report for the year ended 31 December 2021 This section details the remuneration of the executive and non-executive directors (including the Chairman) during the financial year ended 31 December 2021 and will be proposed for an advisory vote by shareholders at the 2022 Annual General Meeting (AGM). It has been prepared on the basis prescribed in Schedule 8 of the Large and Medium-sized Companies and Groups (Accounts and Reports) Regulations 2008. ## Response to remuneration reporting provisions in the 2018 UK Corporate Governance Code In response to the Code requirements, you will find the following detailed in our reporting: - **1** Page 152 Strategic rationale for our directors' remuneration - **2** Page 146 Appropriateness of our remuneration - **3** Page 151 How the Committee has addressed the factors of clarity, simplicity, risk, predictability, proportionality and alignment to culture - **4** Page 140 Operation of our policy - **5** Page 153 Engagement with shareholders - **6** Page 153 Engagement with our workforce - **7** Pages 139 and 140 Exercise of discretion ## Statement of voting Shareholder voting on the resolutions to approve the Annual remuneration report put to the 2021 AGM and the Directors' remuneration policy put to the 2020 AGM was as follows: ### Annual remuneration report | Votes for | % | Votes against | % | Total votes cast | Votes withheld (abstentions) | | --- | --- | --- | --- | --- | --- | | 1,735,641,459 | 76.59 | 530,398,812 | 23.41 | 2,266,040,271 | 239,395,615 | ### Directors' remuneration policy | Votes for | % | Votes against | % | Total votes cast | Votes withheld (abstentions) | | --- | --- | --- | --- | --- | --- | | 2,423,919,276 | 97.55 | 60,821,405 | 2.45 | 2,484,740,681 | 18,848,820 | The Directors' remuneration policy approved at the 2020 AGM, which took effect on 7 May 2020, is detailed on pages 169 to 183. It is also available in the Investor Relations section of the Company's website: baesystems.com. An update to the response to the voting result on the Annual remuneration report resolution put to the 2021 AGM is set out on page 139 in the Remuneration Committee chair's report. ## Contents | Response to remuneration reporting provisions in the 2018 UK Corporate Governance Code | 145 | | --- | --- | | Statement of voting | 145 | | Appropriateness of remuneration and wider context | 146 | | Remuneration principles | 151 | | Strategic rationale for our directors' remuneration | 152 | | Single total figure of remuneration: | | | – for the Chairman and non-executive directors | 154 | | – for the executive directors | 155 | | Implementation of our policy in the year ending 31 December 2022 | 156 | | Annual bonus | 157 | | – Key strategic objectives | 158 | | Long-Term Incentive Plan (LTIP) performance | 159 | | Pension entitlements | 160 | | Share interests: | | | – Scheme interests awarded during the financial year | 161 | | – Description of share plans and summary of performance conditions | 162 | | – Statement of directors' shareholdings and share interests | 164 | | Remuneration Committee composition and advisers | 167 | BAE Systems plc Annual Report 2021 145 Governance ## Annual remuneration report continued ## Appropriateness of remuneration and wider context ### Our reward philosophy and approach The Committee has responsibility for reviewing remuneration and related policies applicable to the wider workforce, ensuring that this is takeninto account when setting the policy for executive remuneration. Our aim across the Group istoprovide a reward package that is aligned toshareholders’ interests, supports the achievement of the Company’s in-yearfinancial and strategic objectives, is competitive against the appropriate market and is consistent with our focus onperformance and our values of Trusted, Innovative and Bold. Across BAE Systems we continue to accelerate our performance, focusing on both what we do for our customers and how we do it. Since their launch in 2019, our Behaviourshave been integral to this success and have been integrated into all our people processes. This means: – base salaries are set with reference to median of the relevant market competitive level; – high performance and exceptional contribution are recognised through in-year incentives; – packages for leadership roles have an increased emphasis on longer-term share-based reward; – providing employees with competitive and affordable retirement benefits which reward long-term contribution andloyalty; and – ensuring access to a competitive and cost-effective package of other benefits as part of our total reward offering. As set out on page 151, the Committee considered a number of core principles in the renewal of our 2020 remuneration policy for executive directors, including how our reward policy and practice compares across the wider workforce. The table below illustrates this for the different groups of employees within BAE Systems. Executive Executive Senior Middle Wider directors Committee executives management workforce Base salary Base salary is set based on market pay approach recognising the individual’s skill, knowledge, experience Base salary is either subject to levels and contribution to role. negotiation with recognised trades unions and/or is set in Normally reviewed annually with increases typically in line with the wider workforce. linewith market and/or performance. Pension Range of employment benefits and competitive post-retirement benefits in line with relevant home market. andbenefits | Short‑term | Annual incentive based 75% on financial performance | Annual incentive based | Annual incentive | In UK businesses, | | --- | --- | --- | --- | --- | | incentive | of our KPIs and 25% on key strategic objectives relating | primarily on organisation | basedon organisation | incentivetypically based | | | to the delivery of the Group’s strategy, including our | performance of our | and individual | onbusiness and/or | | | sustainability agenda, and the demonstration of | KPIs and remainder on | performance. | individualperformance. | | | leadership behaviours, with safety, and diversity and | personal objectives and | | | None in US, Australia inclusion, applied as downward underpin. Compulsory behaviours. Compulsory andKSA. deferral into shares for three years. deferral into shares for three years (except in the US). Long‑term Performance shares are Performance shares are subject to three-year Eligible employees may participate in and receive free incentive subject to three-year performance conditions (and further holding matching shares in our Company Share Incentive Plan performance conditions requirements) designed to drive sustained (SIP) or international equivalent. (andfurther holding companyfinancial performance aligned to Company rewards eligible employees with annual award requirements) designed interestsofshareholders. of free shares, or cash equivalent, based on ourGroup todrive sustained company Share options (with no performance conditions) financial performance. financial performance aligned are exercisable after three years. to interests ofshareholders. Restricted shares vest subject to three-year service Restricted shares vest condition (predominantly applicable in the US). subjectto service condition (applicable inthe USonly). The Committee regularly undertakes a deep-dive session to build its understanding of reward arrangements applicable tothe wider workforce. The Committee has deepened its approach, not only due to the broader governance requirements, but because it believes that well-designed remuneration can be a tool of culture change and progressive improvement inCompany performance. Such deep-dive sessions provide assurance that the remuneration for the wider workforce isconsistent with market trends, with regulation, and is non-discriminatory with respect to gender, ethnicity and other personal attributes not related to performance. The Committee is provided with visibility of remuneration practices in the different sectors/markets in which we operate andfor the different populations within the wider workforce across the Company globally. These sessions have covered arange of topics including workforce demographics, the outcome of the annual reward review throughout the workforce, reward principles, job sizing, pay philosophy and pay ranges, annual and long-term incentive design, employee share plans and other employee benefits including pension and retirement schemes. During meetings, the Committee isalso periodically updated on wider employee matters such as the outcome of our UK gender pay analysis and an analysis of selected key talent such as those individuals on an Executive Committee succession plan. 146 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report The Committee, as well as all Board members, meets periodically with the wider workforce and with high-potential employees to engage in candid dialogue. The Company also receives insights from the broader employee population using an engagement survey. Further detail onengagement with employees is givenon page 153. ### Pay comparisons Pay ratio of Chief Executive to UK average employee The Committee is mindful of the relationship between Chief Executive remuneration and the remuneration of the wider BAESystems employee population. As required by legislation, the table below provides the ratio of the Chief Executive tothat of the median, 25th and 75th percentile total remuneration of full-time equivalent UK employees. We voluntarily disclosed the pay ratio on the required basis in 2018. | | | 25th | | | 75th | | --- | --- | --- | --- | --- | --- | | | percentile | | Median | percentile | | | Year Method | pay ratio | | pay ratio | pay ratio | | 2021 Option B 154:1 126:1 89:1 2020 Option B 121:1 103:1 89:1 2019 Option B 90:1 72:1 59:1 2018 Option B 61:1 48:1 38:1 The reporting regulations offer three calculation approaches for determining the pay ratio – Options A, B and C. The table above has been calculated using the approach determined by Option B which is deemed the most appropriate methodology for BAE Systems. Recognising that BAE Systems has more than 30,000 UK employees, operating on different human resources and payroll systems, it is not feasible to adopt Option A. The calculations for the relevant representative employees were performed as at 31 December 2021. To ensure Option B provides a sufficiently accurate representation of the UK workforce, we have performed sensitivity analysis around the three quartiles. Our approach has been to consider the total pay and benefits for a number of employees centred around each quartile. This allows any anomalies that may arise when calculating the total pay and benefits for the full financial year (such as if an employee left part way through the year) to be adjusted or excluded. By taking an average ofthe remaining figures, this provides a robust representation of each quartile. The total full-time equivalent pay and benefits for the relevant employees has been calculated based on the amount paid orreceivable in respect of the financial year. The calculations are on a similar basis as required for the Chief Executive’s remuneration for single total figure purposes. For pension-related benefits, employer pension costs have been estimated using the employer contributions applicable to the member’s pension scheme made through payroll. In respect of annual incentives, the amounts have been estimated based on the expected financial outturn accrued. No other estimates or adjustments have been used in the calculation and no remuneration items have been omitted. A minority of employees inthis calculation are employed on a part-time basis and therefore their remuneration has been annualised to reflect the full-time equivalent. Our reward framework across the Group is based on a consistent set of principles, including managing reward by reference to external competitor benchmarks (see page 146). In the case of our Chief Executive, his total remuneration comprises asignificant proportion in variable pay and therefore the single figure will vary considerably depending on the level of performance against the measures which drive the Annual and Long-Term Incentive Plans. The employees in the calculation would not typically participate in any long-term incentive plans and receive a significantly higher proportion of their remuneration in the form of fixed pay. The difference in ratio at the three quartiles is consistent with our market-based approach to reward, with the ratio increasing as the Chief Executive’s remuneration is compared with that of more junioremployees. The overall picture presented by the ratios is consistent with our pay, reward and progression policies. 25th 50th 75th £ percentile percentile percentile Total pay and benefits 41,286 50,327 71,472 Salary component 34,707 41,415 53,085 Relative to 2020, the pay ratio in 2021 has increased by approximately 28%, 23% and 1% at 25th, 50th and 75th percentiles respectively. The total pay and benefits figures have decreased at 25th and 50th percentiles due to the representative employees being in a relatively less valuable defined contribution pension scheme, whilst the representative employees in 2020 were predominantly in defined benefit pension arrangements. This has caused the Chief Executive pay ratio to increase. The pay ratio has additionally been impacted by the increase in the Chief Executive’s remuneration for 2021, primarily as a result of the increase in annual bonus outturn (97.1% in 2021 versus 78.7% in 2020). BAE Systems plc Annual Report 2021 147 Governance # Annual remuneration report continued ## Total Shareholder Return (TSR) performance and Chief Executive pay The graph below shows the value by 31 December 2021, on a TSR basis, of £100 invested in BAE Systems on 31 December 2011 compared with the value of £100 invested in the FTSE 100 index, including the effect of dividends. The graph additionally shows the remuneration of the Chief Executive, plotted as a bar chart on the secondary y-axis. The FTSE 100 is considered to be an appropriate comparator for this purpose as it is a broad equity index of which BAE Systems is a constituent member and reflects the investment interests of our UK shareholder base. In addition, it forms 50% of the TSR performance measure for awards made between 2016 and 2020 and 100% of the TSR performance measure for awards made in 2021. The chart below demonstrates the strong long-term alignment of our Chief Executive pay and the returns to our shareholders. We achieved this through the Chief Executive receiving a high proportion of his remuneration in shares and with our performance conditions being based on measures which directly support the implementation of our strategy. ### Value at 31 December 2021 of £100 investment at 31 December 2011 ![img-2.jpeg](img-2.jpeg) ### Change in Chief Executive's remuneration over ten years | | 2012 | 2013 | 2014 | 2015 | 2016 | 2017^{1} | 2018 | 2019 | 2020 | 2021 | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | **Chief Executive's single total figure (£'000)** | | | | | | | | | | | | lan King | 2,574 | 2,499 | 3,519 | 2,929 | 3,463 | 2,086 | n/a | n/a | n/a | n/a | | Charles Woodburn | – | – | – | – | – | 1,279 | 2,416 | 3,747^{3} | 6,080 | 6,341 | | | 2,574 | 2,499 | 3,519 | 2,929 | 3,463 | 3,365 | 2,416 | 3,747^{3} | 6,080 | 6,341 | | **Bonus paid as a percentage of maximum** | | | | | | | | | | | | lan King | 55.6% | 53.4% | 74.3% | 72.4% | 82.3% | 75.9% | n/a | n/a | n/a | n/a | | Charles Woodburn | – | – | – | – | – | 75.8% | 65.6% | 95.6% | 78.7% | 97.1% | | **LTI as a percentage of maximum vesting** | | | | | | | | | | | | lan King | nil | nil | 16.8% | nil | nil | 11.3% | n/a | n/a | n/a | n/a | | Charles Woodburn | – | – | – | – | – | n/a | nil | 10.9%^{3} | 100% | 57.9% | 1. lan King retired and stepped down as Chief Executive on 30 June 2017 and Charles Woodburn took over the position on 1 July 2017. lan King's remuneration is shown from the start of the financial year until 30 June 2017. Charles Woodburn's remuneration is shown from 1 July 2017 to the end of that financial year. 2. Plotted as a bar chart on the secondary y-axis. 3. Total remuneration includes the value of share plans vesting that were granted prior to appointment as Chief Executive. 148 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## Annual percentage change in directors' remuneration The table below shows the percentage change over the year ended 31 December 2020 to the year ended 31 December 2021 in respect of directors' remuneration and average employee remuneration. As required by legislation, Directors' remuneration is compared to employees of the BAE Systems plc entity on a full-time equivalent basis. | | 2020/2021 | | | 2019/2020 | | | | --- | --- | --- | --- | --- | --- | --- | | | Salary/fees % change | Benefits % change | Annual bonus % change | Salary/fees % change | Benefits % change | Annual bonus % change^{1} | | **Executive directors** | | | | | | | | C N Woodburn | +12.7 | +17.7 | +39.1% | +6.9 | -3.9 | -12.1 | | B M Greve^{2} | +36.0 | +44.2 | +68.7% | n/a | n/a | n/a | | T A Arseneault^{2} | +27.9 | +156.9 | +115.4% | n/a | n/a | n/a | | **Non-executive directors** | | | | | | | | Sir Roger Carr | 0.0 | 0.0 | n/a | 0.0 | 0.0 | n/a | | N J Anderson^{2} | +500.0 | +81.0 | n/a | n/a | n/a | n/a | | C E Ashby^{2} | n/a | n/a | n/a | n/a | n/a | n/a | | Dame Elizabeth Corley | +1.5 | 0.0 | n/a | +4.7 | -100.0 | n/a | | Dame Carolyn Fairbairn^{3} | n/a | n/a | n/a | n/a | n/a | n/a | | J V Griffiths^{2} | +72.5 | 0.0 | n/a | n/a | n/a | n/a | | C M Grigg | +7.3 | 0.0 | n/a | +28.1 | -100.0 | n/a | | E M Kirk^{2} | n/a | n/a | n/a | n/a | n/a | n/a | | S T Pearce^{4} | +1.1 | +90.4 | n/a | +133.0 | -4.0 | n/a | | N W Piasecki^{4} | +1.5 | -100.0 | n/a | +79.5 | -35.5 | n/a | | I P Tyler | +1.1 | +8.9 | n/a | +3.6 | -64.7 | n/a | | **Average employee^{5}** | **+1.5** | **+1.5** | **+28.4** | **+2.5** | **+2.5** | **-2.0** | 1. Annual percentage change information for the 2019/2020 comparative excludes those directors who joined or retired from the Board part way through 2020, these being Nick Anderson and Jane Griffiths who joined the Board on 1 November 2020 and 1 April 2020 respectively. 2. Remuneration for Brad Greve and Tom Arseneault in respect of 2020 reflects the period from their appointment as executive directors on 1 April 2020. Remuneration for Nick Anderson and Jane Griffiths in respect of 2020 reflects their part-year from joining the Board on 1 November 2020 and 1 April 2020 respectively. 3. Remuneration for Crystal Ashby, Dame Carolyn Fairbairn and Ewan Kirk in respect of 2021 reflects their part-year from joining the Board on 1 September 2021, 1 March 2021 and 1 June 2021 respectively. 4. Remuneration for Stephen Pearce and Nicole Piasecki in respect of 2019 reflects their part-year from joining the Board on 1 June 2019. 5. Figures are provided in respect of the relevant median average employee of BAE Systems plc as determined on a full-time equivalent basis and with annual bonus estimated in respect of 2021. BAE Systems plc Annual Report 2021 149 Governance ## Annual remuneration report continued ### Gender pay BAE Systems has published its annual gender pay gap report in line with the UK regulations. For 2021, the average (mean) gender pay gap for our UK workforce was 8.7% in favour of men (2020 9.1%), which is lower than the current UK national average of 16.1%. We rely on employing large numbers of employees with STEM qualifications and we, like other companies, face challenges recruiting females with these qualifications because there are significantly fewer women who study and work in these fields. As a result, a greater proportion of our workforce and our senior leadership population is male and this is a major factor in our gender pay gap. We continue to work hard to improve our gender balance and remain steadfast in our commitment to delivering the plans we have in place to increase the number of women in BAE Systems and support the progression of women into senior executive positions. ### Relative importance of spend on pay 1 The following charts set out underlying EBIT , amounts paid in returns to shareholders, total employee costs and average headcount for the years ended 31 December 2020 and 2021. These charts have been chosen asthey are most representative in assisting to understand the relative importance of spend on pay. | | 1 | | 3 | | --- | --- | --- | --- | | Underlying EBIT | | Returns to shareholders | | | (£m) | | (£m) | | +8.3% +53.5% | 2021 2,205 | | | 2021 1,145 | | | | --- | --- | --- | --- | --- | --- | | | | 2,0372020 | | | 7462020 | | | 2 | | | 4 | | | Total employee costs | | | Average headcount | | | | (£m) | | | (’000) | | | –0.3% +2.5% 2021 6,667 2021 82 6,6872020 802020 1. With effect from 2021, the Group adopted the underlying EBIT profitability measure in place of the previously reported EBITA measure. Further details of this change are provided in the Financial glossary on page 78. This is included as it is the Group’s principal measure of operational profitability. 2. After excluding the impact of exchange translation, wages and salaries increased by approximately 2.5% per employee in 2021. 3. Returns to shareholders comprise dividends to ordinary shareholders paid in the year and, in respect of 2021, £368m in share buyback. 4. Excluding share of equity accounted investments. This is included foryear-on-year comparison of employee headcount. 150 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Remuneration principles The Committee established six core principles which underpin our approach to executive remuneration. The principles arealigned to BAE Systems’ strategic objectives, taking account of shareholder expectations and the remuneration factors set out in Provision 40 of the 2018 UK Corporate Governance Code (the Code), as well as reflecting a stronger performance accountability across the enterprise. The Committee considered these principles in the renewal of our 2020 remuneration policy, whilst being mindful of the alignment and fairness of remuneration with the wider workforce. The table below shows this close alignment between the Committee’s core principles and the Code’s factors, including howthe Committee addresses each factor. Factor within Provision 40 How the Committee addresses the factor Clarity Remuneration arrangements In line with our commitment to full transparency and engagement with ### Remuneration Committee should be transparent and ourshareholders on the topic of executive remuneration, the Remuneration ### promote effective engagement Committee Chair engages with our major shareholders to set out the coreprinciples with shareholders and changesplanned. In a year of significant change, the Remuneration Committee theworkforce. Chair will consult with our major shareholders todiscuss andseek views on Simplicity potential changes. Clarity and simplicity of design; The Company consults directly with the broader employee population ease of understanding by ontheirremuneration through a variety of methods including Webex, executives and external explanatory guides hosted on intranet, human resources or business-led stakeholders. briefings (see also page 153 for engagement on executive pay). Motivational | Simplicity | | Plans are relevant and meaningful | | --- | --- | --- | | Remuneration structures | Clear direction of travel for changes to our reward framework in prior years | with clear line of sight between | | shouldavoidcomplexity and their | hasbeen toreduce the complexity of our long-term incentive arrangements | actions and reward outcomes; | | rationale and operation should be | asdemonstrated by: | metrics and targets which drive | | easy tounderstand. | – 2014: Introduction of new single ‘umbrella’ LTI plan allowing simplicity | superior performance and value | | | andflexibilityofdesign; and | for shareholders. | – 2018: Simplification of construct by elimination of share options for Aligned with executivedirectors. shareholderinterests Risk Close alignment of reward Remuneration arrangements Full range of design features exist within remuneration arrangements to take outcomes and shareholder should ensure reputational risks into account as follows: experience; long-term share andother risks from excessive – malus and clawback mechanisms within AIP and LTIs; ownership and ‘skin in the rewards, and behavioural risks game’for executives. – Remuneration Committee application of reasonable discretion to override that can arise from target-based formulaic outcomes; and incentive plans, are identified Globally competitive andmitigated. – safety targets expected to be met in all circumstances, with downward Reward opportunity underpin applying within AIP in the event of below-target performance. alignedtorelevant competitive employment market; enabling Predictability mobility across different The range of possible values Our remuneration policy contains the following: businesses and geographies. ofrewards to individual – maximum award levels and vesting outcomes applicable to annual and directorsand anyother limits long-term incentive arrangements; and Acceptable to shareholders ordiscretions should be identified – as set out above in Risk, the Committee has the ability to apply malus, Compliance with proxy bodies and explained at the timeof clawback and reasonableness discretion where appropriate. andcorporate governance approving the policy. guidelines; continuing Proportionality government, investor, media andpublic scrutiny of executive The link between individual Performance conditions attached to annual and long-term incentive awards, the delivery of strategy arrangements require a minimum level of performance to be achieved before pay and fairness relative to and the long-term performance any payout is made. As set out onpage 152, there is a direct link between widerworkforce. of the Company should be clear. anindividual’s reward and their contribution to driving strategy and increasing Flexibility/adaptability Outcomes should not reward company performance. No payment is made for poor performance. Any poor performance. individual’s performance that is below expectations is dealt with as part of Transparent and responsible our performance management process – any individual leaving due to application of discretion to performance issues would not be entitled to any incentive payments. override formulaic outcomes; ability to respond to special/ Alignment to culture unforeseen circumstances Incentive schemes should As set out on page 152, there is a direct link between driving BAE Systems’ duringlife of binding policy. drivebehaviours consistent strategy and an individual’s reward. withCompany purpose, As shown opposite, the Committee has established six core principles which valuesand strategy. underpin the philosophy and approach to executive remuneration to ensure alignment to BAE Systems’ strategic objectives. BAE Systems plc Annual Report 2021 151 Governance ## Annual remuneration report continued ## Strategic rationale for our directors’ remuneration As detailed on page 146, the Committee’s aim across the Group is to provide a reward package that is aligned to shareholders’ interests, supports the achievement of the Company’s in-year financial and strategic objectives, is competitive against the appropriate market and is consistent with our focus on performance and our values of Trusted, Innovative and Bold. Inthe context of our executive directors and senior executive population, a significant proportion of their remuneration package is performance-related, and the performance conditions applying to incentive arrangements support the delivery of the Company’s strategy. The chart below shows the alignment of our incentive measures with our shared strategic objectives. Shared strategic objectives Drive Continuously Advance and Pursue Lead Advance and integrate operational improve furtherleverage and deliver and inspire oursustainability agenda excellence competitiveness ourtechnology growth high-performing with progress across each andefficiency teams and ofenvironment, social individuals andgovernance How our strategic objectives aremeasuredin our incentives Annual incentive Earnings per share Net debt Order intake 1 Safety and diversity & inclusion Key strategic objectives Long-term incentive Three-year earnings per share Three-year relative Total Shareholder Return Three-year cash generation Three-year strategic progress 1. Safety and diversity & inclusion will be applied as a downward underpin if these are not achieved at high levels expected. The table below sets out how our executive directors’ and senior executives’ remuneration framework directly aligns to ourstrategy. Element Purpose and link to strategy Base salary Recognise market value of role and individual’s skills, experience and performance to ensure the businesscan attract and retain talent. Pension and benefits Provide employment benefits and competitive post-retirement benefits to ensure overall package ismarketcompetitive. Annual incentive Drive and reward annual performance of individuals and teams on both financial and non-financial metrics,including leadership behaviours, in order to deliver sustainable growthin shareholder value. Bonus deferral Compulsory deferral into shares increases alignment with shareholder interests. Performance shares Direct financial measures of long-term earnings and cash generation that drive our financial ambitions forthe Company, and external strategic measures including relative TSR performance, aligned to the interests ofshareholders. Restricted shares Provide long-term reward through time-vesting awards principally in the Company’s USmarket. (predominantly in the US) Share options Drive and reward delivery of sustained improvement in the Company’s share price. (below executive director level) Shareholding requirements Provide long-term alignment with shareholder interests. 152 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## Engagement with shareholders In line with our commitment to full transparency and engagement with our shareholders on the topic of executive remuneration, the Remuneration Committee Chair annually writes to our major shareholders and also the Institutional Shareholder Services, the Investment Association and Glass Lewis, to set out the remuneration changes planned. In a year of significant change, such as the renewal of our Remuneration Policy, the Remuneration Committee Chair will additionally engage directly with our major shareholders to discuss and seek views on potential changes. The Remuneration Committee Chair values direct engagement with our shareholders and makes himself available for such meetings throughout the year to hear their perspective on remuneration matters. Specific engagement undertaken in 2021 in respect of the 2021 shareholder vote on the Remuneration report is set out on page 139 in the Remuneration Committee report. Periodically, BAE Systems conducts a Governance Investor event, aimed at encouraging greater transparency and awareness of our governance programmes. The event provides an opportunity for closer contact with non-executives, particularly the committee chairs. During 2021, the Remuneration Committee members and other non-executive directors attended the Company's October 2021 ESG event. ## Engagement with workforce The skills, capabilities and commitment of our people are critical to ensuring the long-term sustainability of our business and delivering the innovation needed to solve our customers' complex challenges. Effective engagement enables our employees to contribute to improving business performance and helps us to create an environment in which everyone is valued and can fulfil their potential. Our Company Behaviours, launched in 2019, help us define and develop together a positive, inclusive, future-ready working environment in which everyone can give their best for our customers. As we continue to build a high-performing culture that delivers our shared strategic objectives, our Values and Behaviours have become integral to this success. These Behaviours have been integrated into all our people processes, including performance, talent, reward, recruitment and learning. Data insights and employee sentiment are key to informing our people agenda. Employees in the UK, Australia and Kingdom of Saudi Arabia undertook a comprehensive employee engagement survey, similar to one run in 2018. The three principal objectives of the survey were: to assess employee engagement; to understand progress in achieving alignment with certain behaviours adopted and promoted by the Company; and, to hear about employee experiences during the COVID-19 pandemic. In our US business, a random sample of 20% of the workforce undertook a pulse survey that reviewed employee perceptions. The Board reviewed the results of these surveys and used these to inform their deliberations on the Company's culture. In 2021, the easing of COVID-19 restrictions as the year progressed allowed for a number of non-executive Board members to join senior executives on visits to our sites, to engage directly with employees. The personal tone and increased levels of communication fostered at the peak of the pandemic were maintained, and the Board was pleased to see positive feedback from employees with regards to the authenticity and more conversational style of communications. We keep employees informed about what is happening across the business using a variety of channels, including our intranet, email and employee app, through podcasts, newsletters, leadership blogs and trade union forums, and also through virtual and face-to-face leadership briefings and team meetings where we seek to listen to employees' views and opinions. This includes our Employee Resource Groups (ERGs) which are sponsored by our Executive Committee and provide visible leadership and director engagement with a range of groups, to ensure employees feel that their differences are valued and represented. Employees are encouraged to share their views through our channels and employee surveys, including focus groups through to smaller, targeted surveys and polls. We also engage with trade unions in Australia and the UK and labour unions in the US. This report is the principal means through which we communicate and engage with employees on how executive remuneration aligns with that of the wider workforce. Around 78,000 of the Company's employees who are shareholders in the Company receive email communications with a direct link to this report on the Company's website and an invitation to vote on the resolutions being put to the Annual General Meeting (AGM), including those resolutions on executive remuneration. The results of employee shareholder voting on the AGM resolutions, including those relating to executive remuneration, are subsequently reported to the Board for discussion. This did not impact executive remuneration policy in 2021 as the policy was not due for renewal and is not used to seek feedback on individual outcomes. BAE Systems plc Annual Report 2021 153 Governance ## Annual remuneration report continued ## Single total figure of remuneration ### Single total figure of remuneration for the Chairman and non-executive directors | | | | | Total fixed | Total variable | | | --- | --- | --- | --- | --- | --- | --- | | Fees | Benefits | Other | Total | remuneration | remuneration | | | £’000 | £’000 | £’000 | £’000 | £’000 | | £’000 | 2021 2020 2021 2020 2021 2020 2021 2020 2021 2020 2021 2020 Chairman Sir Roger Carr 700 700 – – – – 700 700 700 700 – – Non-executive directors 1 R Advaithi n/a 40 n/a 2 n/a – n/a 42 n/a 42 n/a – 2 N J Anderson 85 14 2 1 – – 87 15 87 15 – – 3 C E Ashby 28 n/a – n/a 9 n/a 37 n/a 37 n/a – n/a Dame Elizabeth Corley 85 84 2 – – – 87 84 87 84 – – 4 Dame Carolyn Fairbairn 71 n/a – n/a – n/a 71 n/a 71 n/a – n/a 5 J V Griffiths 110 64 5 – – – 115 64 115 64 – – C M Grigg 110 103 – – – – 110 103 110 103 – – 6 E M Kirk 62 n/a 1 n/a – n/a 63 n/a 63 n/a – n/a S T Pearce 110 109 2 1 – – 112 110 112 110 – – N W Piasecki 85 84 – 7 9 4 94 95 94 95 – – 7 P Rosput Reynolds n/a 109 n/a 2 n/a 4 n/a 115 n/a 115 n/a – 7 N C Rose n/a 90 n/a – n/a – n/a 90 n/a 90 n/a – I P Tyler 110 109 1 1 – – 111 110 111 110 – – 1. Retired from the Board on 25 June 2020. 2. Appointed to the Board on 1 November 2020. 3. Appointed to the Board on 1 September 2021. 4. Appointed to the Board on 1 March 2021. 5. Appointed to the Board on 1 April 2020. 6. Appointed to the Board on 1 June 2021. 7. Retired from the Board on 31 December 2020. Fixed remuneration element Variable remuneration element Chairman Sir Roger Carr’s fee was set at£700,000per annum with effect from 1 February 2017 and has remained at that level following a review prior to the commencement of his third three-year term from 1 February 2020. The Chairman’s fee is set by the Remuneration Committee and will not be reviewed again for the remainder of his currentthree-year term. Non-executive directors The non-executive directors’ fees are set by the Non-Executive Directors’ Fees Committee which comprises Sir Roger Carr(Committee Chair), TomArseneault, Philip Bramwell (Group General Counsel) and Charles Woodburn. The fee structure was reviewed in January 2020 and was set from 1 April 2020 on a per annum basis as follows: (i)Committee chairs: £110,000; (ii) other non-executive directors: £85,000; and (iii) additional fee for Senior Independent Director: £25,000. These amounts are shown in the ‘Fees’ column above. This will be subject to periodic review. A travel allowance of £4,500 per meeting is also paid on each occasion that a non-executive director’s travel necessitates airtravel of more than five hours (one way) to the meeting location, subject to a maximum of six travelallowances per year. These amounts are shown in the ‘Other’ column. The amounts in the ‘Benefits’ column relate to travel expenses and subsistence. The above table has been subject to audit. 154 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ### Single total figure of remuneration for the executive directors | Base | Taxable | | | | | | | | | | | Total fixed | Total variable | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | 1 | | 2 | | 3 | | 4 | | 5 | | | | | | salary | benefits | | Bonus | | LTIP | | Pension | | Other | | Total | remuneration | remuneration | | | £’000 | £’000 | | £’000 | | £’000 | | £’000 | | £’000 | | £’000 | £’000 | | £’000 | 2021 2020 2021 2020 2021 2020 2021 2020 2021 2020 2021 2020 2021 2020 2021 2020 2021 2020 C N Woodburn 1,108 983 24 20 2,420 1,740 2,602 3,150 186 186 1 1 6,341 6,080 1,318 1,189 5,023 4,891 B M Greve* 622 458 17 12 968 573 – – 50 38 1 1 1,658 1,082 689 508 969 574 6 T A Arseneault* 740 578 45 18 1,611 748 373 46 26 12 1,109 1,035 3,904 2,437 811 608 3,093 1,829 P J Lynas** n/a 165 n/a 6 n/a 206 n/a 207 n/a 132 n/a – n/a 716 n/a 303 n/a 413 6 J DeMuro** n/a 210 n/a 17 n/a 274 n/a 499 n/a 13 n/a 252 n/a 1,265 n/a 240 n/a 1,025 * Appointed to the Board on 1 April 2020. ** Retired from the Board on 31 March 2020. Fixed remuneration element Variable remuneration element The above table has been subject to audit. Note: The prior year figures in respect of Brad Greve and Tom Arseneault are in relation to the nine-month period from theirappointment asexecutive directors on 1 April 2020 whilst the prior year figures inrespect of PeterLynas and Jerry DeMuro are in relation to their service as executive directors in the three-month periodfrom 1 January to 31 March 2020. 1. The benefits received by Charles Woodburn include the provision of a car allowance and private use of a chauffeur-driven car (2021 £22k; 2020 £20k) and private medical insurance (2021 £1k; 2020 £nil). The benefits received by Brad Greve include the provision of a car allowance and private use of a chauffeur-driven car (2021 £16k; 2020 £12k) and private medical insurance (2021 £1k; 2020 £nil). Thebenefits received by Tom Arseneault include private use of achauffeur-driven car and parking (2021 £8k; 2020 £327); medical and dental benefits (2021 £15k; 2020 £11k); insured life and disability benefits (2021 £7k; 2020 £6k); and the private use of a company aircraft (2021 £15k; 2020 £nil). Thebenefits received by Peter Lynas for the prior year included the provision of a car allowance and the private use ofachauffeur-driven car (2020 £6k) whilst the benefits received by Jerry DeMuro in the prior year included private use ofa chauffeur-driven car andparking (2020 £1k); medical and dental benefits (2020 £3k); insured life and disability benefits (2020 £2k); and the private use ofacompany aircraft (2020 £11k). 2. Further detail on bonus payments is provided on page 157. One-third of the net bonus paid to Charles Woodburn, BradGreve and Tom Arseneault will be deferred compulsorily into BAE Systems shares for a three-year period, without additional performance conditions. This arrangement also applied to the net bonuses paid to Peter Lynas and Jerry DeMuro in respect of their service as executive directors in 2020 as shown in the prior year figures. With respect to the prior year figures for BradGreve and Tom Arseneault, the full year net bonus in respect of Brad Greve was subject to compulsory deferral and in the case of Tom Arseneault, the net bonus earned since becoming an executive director on 1 April 2020 was subject to compulsory deferral. 3. This column relates to the estimated or actual value of Long-Term Incentive Plans for which the performance period endedin the relevant financial year. The values in the 2021 column are calculated on the basis of the three-month average share price of £5.6227 as at 31 December 2021 and relate to the vesting portion (57.9% overall; 15.8% TSR and 100% EPS), including shares deriving EPS TSR from notional reinvested dividends, ofthe 2019 LTIP PS /PS granted to Tom Arseneault and Charles Woodburn for which the performance period ended on 31 December 2021 (see page 159 for further detail). The values in respect of TomArseneault have been apportioned to include amounts in respect of his service as executive director since 1 April 2020. There has been no exercise of discretion asa result of share price appreciation or depreciation. An estimate of the amount of 2019 LTIP award attributable to share price appreciation is set out below. 2019 LTIP PS £ C N Woodburn +313,834 1 T A Arseneault +45,187 1. The figures in respect of Tom Arseneault have been apportioned to include amounts in respect of his service as an executive director since 1 April2020. As required by regulation, the estimated vesting values for the awards shown in the 2020 column (which were calculated in the 2020 Annual Report on the basis of the three-month average share price of £4.84 as at 31 December 2020), have been adjusted to reflect the actual value on the vesting of the performance award in March 2021 based on the then share price of £4.895. The figures reported in the 2020 column in the 2020 Annual Report on the estimated basis were Charles Woodburn: £3,118k; Peter Lynas: £205k; Jerry DeMuro: £493k; and Tom Arseneault: £45k. The respective figures in the 2020 Total and Total variable remuneration columns have been recast accordingly. BAE Systems plc Annual Report 2021 155 Governance # Annual remuneration report continued 4. The figures for Charles Woodburn relate to a salary supplement in lieu of Company pension contributions and the added pension value received in the year from his defined contribution scheme in respect of the employer contributions. The figures for Brad Greve relate to a salary supplement in lieu of Company pension contributions and the added pension value received from his defined contribution scheme in respect of the employer contributions. The figures for Tom Arseneault and, in the 2020 column for Jerry DeMuro, include company contributions paid into their Section 401(k) defined contribution arrangements. The figures for Tom Arseneault in the 2021 column also reflect defined benefit arrangements calculated in line with the method set out in Section 229 of the Finance Act 2004 using a capitalisation factor of 20 for the life pension, a x10 factor for the 10-year pension and a x1 factor for the lump sum benefit (see page 161). The figures for Peter Lynas in the 2020 column reflect defined benefit arrangements calculated to 31 March 2020, the date of his retirement. Details of his pension payments in 2020 were disclosed last year. Further detail on pensions is given on page 160. 5. This column includes (i) the value of Free Share awards under the UK all-employee Share Incentive Plan (SIP) of £615 for Charles Woodburn and Brad Greve, and their respective Matching Shares under voluntary investment in the SIP; and (ii) for Tom Arseneault, the value of the 2021 grant of Restricted Shares (£1,095k). This award formed part of Tom Arseneault's 2021 LTIP allocation but is required to be reported under 'Other' as it has no performance conditions attached. The balance of the 2021 figure (£14k) relates to the value of notional reinvested dividends in respect of his 2018 Restricted Share Plan award which vested in March 2021, the third anniversary of grant, and have been apportioned to include amounts in respect of his service as an executive director since 1 April 2020. Jerry DeMuro's prior year figure (£252k) relates to the value of the notional reinvested dividends in respect of his 2017 Restricted Share Plan award which vested in March 2020, and his 2018 Restricted Share Plan and 2019 Restricted Share Plan awards, both of which vested on 31 December 2020. 6. Tom Arseneault is paid in US dollars (as was Jerry DeMuro) with the disclosed figures above being converted into sterling at the required exchange rate. Tom Arseneault's 2021 salary reflects his 3.5% increase and the exchange rate fluctuations experienced during 2021. Payments to former directors in respect of the 2021 financial year comprised: (i) £1,150,791 in respect of Jerry DeMuro, being (a) the value of his 2019 LTIP Performance Shares award (pro-rated for service as disclosed last year, including shares deriving from pro-rated notional reinvested dividends) calculated on the same basis as set out in note 3 to the single figure table on page 155, such value being £1,122,609; and (b) £28,182 relating to reinvested notional dividends accrued prior to the release at the end of 2020 of share awards which releases were reported last year; and (ii) £347,334 in respect of Peter Lynas, being the value of his 2019 LTIP Performance Shares award (pro-rated for service as disclosed last year, including shares deriving from pro-rated notional reinvested dividends) calculated on the same basis as set out in note 3 to the single figure table on page 155. # Implementation of our policy in the year ending 31 December 2022 For the purposes of the Companies Act 2006, the Directors' remuneration policy (the Policy) has been operating in practice since the date of its approval on 7 May 2020 at the 2020 AGM. The remuneration for 2022 will be implemented as follows: - The salary of the Chief Executive is increased to £1,135,226 with effect from 1 January 2022. - The salary of the Group Finance Director is increased to £637,755 with effect from 1 January 2022. - The salary of the President and Chief Executive Officer of BAE Systems, Inc. is increased to $1,052,000 with effect from 1 January 2022. - Modest changes to benefits including the introduction of medical benefits, an increase to the car allowance and limited financial and tax advice support. - The Chief Executive's pension value will be reduced to the monetary level equivalent to the weighted average UK active members on 1 December 2022. - Annual and Long-Term Incentive opportunity levels are in line with 2020 approved Policy (as set out on pages 171 to 175). - Long-Term Incentive awards of Performance Shares only for UK executive directors, and Performance Shares and Restricted Shares for US executive director. - The performance measures and weightings for 2022 for the Annual Incentive and Long-Term Incentives are set out on pages 168 and 171 to 175 with additional information on pages 140 and 141. - The Committee is of the view that bonus targets for the Annual Incentive are commercially sensitive and that it would be detrimental to the Company to disclose them in advance. The targets will be disclosed retrospectively after the end of the relevant financial year. 156 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Annual bonus Annual bonuses for the 2021 year are paid in March 2022. Annual bonus is made up of financial metrics, shared key strategic objectives relating to the delivery of the Group’s strategy including objectives specifically focused on our sustainability agenda, and the demonstration of leadership behaviours. Safety and diversity underpin applies to the non-financial element, with the requirement to uphold and deliver our commitment to high standards of safety and a diverse and inclusive workforce. The breakdown of bonus measures, achievement and payout for each executive director is shown below. One-third of the net bonus payment is subject to compulsory deferral into BAE Systems shares for athree-year period, for which there is no additional performance condition. ### Charles Woodburn Chief Executive Weight (as a Actual performance against targets set Percentage percentage Threshold Target Stretch Actual ofmaximum 1 Measures oftarget) for 2021 for2021 for2021 performance opportunityBelow Threshold Target Stretch Financial | Group underlying EPS 45.0 | | 43.3p 45.7p 46.9p 50.2p 100% | | --- | --- | --- | | Group net debt 22.5 | £(3,283)m £(3,083)m £(2,883)m £(1,653)m 100% | | | Group order intake 7.5 | | n/a £18.7bn £19.7bn £21.6bn 100% | Non-financial Key strategic objectives 25.0 See Key strategic objectives section on page 158 93% Safety and diversity & inclusion underpin 95% Total bonus (as a percentage of maximum) 97.1% Amount of bonus £2,420,317 ### Brad Greve Group Finance Director Weight (as a Actual performance against targets set Percentage percentage Threshold Target Stretch Actual ofmaximum 1 Measures oftarget) for 2021 for2021 for2021 performance opportunityBelow Threshold Target Stretch Financial | Group underlying EPS 45.0 | | 43.3p 45.7p 46.9p 50.2p 100% | | --- | --- | --- | | Group net debt 22.5 | £(3,283)m £(3,083)m £(2,883)m £(1,653)m 100% | | | Group order intake 7.5 | | n/a £18.7bn £19.7bn £21.6bn 100% | Non-financial Key strategic objectives 25.0 See Key strategic objectives section on page 158 93% Safety and diversity & inclusion underpin 95% Total bonus (as a percentage of maximum) 97.1% Amount of bonus £966,899 ### Tom Arseneault President and Chief Executive OfficerofBAE Systems, Inc. Weight (as a Actual performance against targets set Percentage percentage Threshold Target Stretch Actual ofmaximum 1 Measures oftarget) for 2021 for2021 for2021 performance opportunityBelow Threshold Target Stretch Financial | Group underlying EPS 15.0 | | 43.3p 45.7p 46.9p 50.2p 100% | | --- | --- | --- | | Group net debt 7.5 | £(3,283)m £(3,083)m £(2,883)m £(1,653)m 100% | | | Group order intake 2.5 | | n/a £18.7bn £19.7bn £21.6bn 100% | | BAE Systems, Inc. underlying EBIT 30.0 | $1,436.8m $1,513.8m $1,559.8m $1,581.4m 100% | | | BAE Systems, Inc. debt 15.0 | $1,449m $1,599m $1,749m $2,357m 100% | | | BAE Systems, Inc. order intake 5.0 | | n/a $11.8bn $12.4bn $12.5bn 100% | Non-financial Key strategic objectives 25.0 See Key strategic objectives section on page 158 93% Safety and diversity & inclusion underpin 95% Total bonus (as a percentage of maximum) 97.1% Amount of bonus $2,215,907 The above table has been subject to audit. 1. Adjusted to be on a comparable basis with the targets. 2. Performance in respect of the safety and diversity & inclusion underpin to the bonus was determined by the Environmental, Social and Governance Committee (whose composition is stated on page 134). In 2021, improvements insafety and diversity were underpins to the non-financial element of the executive bonus. The requirements for diversity improvements were met but those for safety improvements were not achieved. While progress was made with some of the long-term metrics improving, especially around major injuries rates and a reduction in severity levels, the overall recordable injury rate increased slightly over 2020. The analysis into this showed a significant increase in hours worked in several of our larger sites throughout 2021 while the staff headcount remained consistent. Given the importance of safety to our Company, it was confirmed a reduction be applied to the non-financial element of the bonus. Taking into consideration theoverall business performance during the year, theCommittee believes the bonus outturns are appropriate. BAE Systems plc Annual Report 2021 157 Governance ## Annual remuneration report continued ### Key strategic objectives Achievement against key strategic objectives represents 25% of the annual bonus opportunity applicable to each of the executive directors. These objectives relate to the delivery of the Group’s strategy including objectives specifically focused onour sustainability agenda, and the demonstration of leadership behaviours. Safety and diversity underpin applies to the non-financial element, with the requirement to uphold and deliver our commitment to high standards of safety and a diverse and inclusive workforce. Executive directors and Executive Committee members are collectively responsible for, or required tosupport, a set of shared common strategic objectives. The objectives are aligned to our strategy, centred on maintaining and growing our core franchises and securing growth opportunities through advancing our three strategic priorities and demonstrating Company Behaviours. Charles Woodburn Brad Greve Tom Arseneault President and Chief Executive Group Finance Director Chief Executive OfficerofBAE Systems, Inc. Drive operational excellence Key successes in 2021 – Astute Boat 5, HMS Anson launched; US Combat vehicle production ramped to full rate; UK Carrier Strike Group successfully supported on first operational deployments; Global Combat Ship continues to progress in the UK, Australia and Canada. – Delivered stretch net improved project – Delivered stretch net improved project – Delivered stretch net improved project performance margins per Group Salients. performance margins per Group Salients. performance margins per Group Salients. – Established and implemented Line of Business – Established and implemented Line of Business – Established and implemented Line of Business Quality Scorecard, with improvements achieved Quality Scorecard, with improvements achieved Quality Scorecard, with improvements achieved against the KPIs. against the KPIs. against the KPIs. Continuously improve competitiveness and efficiency Key successes in 2021 – Achieved supply chain resilience in response to pandemic-driven challenges ensuring critical programmes remained on track; process and automation improvements inUS combat vehicles production; data analytics and benchmarking implemented to drive cost saving programmes. – Enhanced customer relationships across key – Enhanced customer relationships across key – Enhanced customer relationships across key international markets and ‘home’ markets, international markets and ‘home’ markets, international markets and ‘home’ markets, increasing collaboration across the Group. increasing collaboration across the Group. increasing collaboration across the Group. – Established and delivered supply chain risk – Established and delivered supply chain risk – Reduced general and administration costs management system against clear milestones. management system against clear milestones. atBAESystems, Inc. – Established and delivered supply chain risk management system against clear milestones. Advance and further leverage our technology Key successes in 2021 – In-Space Missions UK acquisition; contract signed for next phase of Tempest Future Combat Air System; successful integration of 2020 acquisitions (Military GPS and Airborne Tactical Radios) with winning orders and growing the business. – Significant year with significant progress – Significant year with significant progress – Significant year with significant progress againstour Group integrated technology plans. againstour Group integrated technology plans. againstour Group integrated technology plans. – Acquisition of In-Space Missions to accelerate – Acquisition of In-Space Missions to accelerate – Furthered our ambition in the future of flight ourSpace capabilities. ourSpace capabilities. with BAE Systems, Inc. investing in aircraft – Successful launch of our global multi-domain – Successful launch of our global multi-domain electrification technologies. autonomous systems programme. autonomous systems programme. – Sustainability-based product innovation including sustainable power and propulsion solutions. Pursue and deliver growth Key successes in 2021 – MBDA secured a number of significant export awards; continued to widen reach and relationships in targeted markets especially in Asia-Pacific; received contracts of over £1bn under UK Ministry of Defence’s Future Maritime Support Programme; RBSL secured Challenger 3 Main Battle Tank upgrade contract. | – Progressed and/or won specific key awards. | – Progressed and/or won specific key awards. | – Progressed and/or won specific key awards. | | --- | --- | --- | | – Agreement reached in principle to renew | – Agreement reached in principle to renew | – BAE Systems, Inc. secured multiple contracts | | SaudiBritish Defence Co-operation Programme | SaudiBritish Defence Co-operation Programme | forCV90 and BvS10 work. | | to31 December 2026. | to31 December 2026. | – 2020 acquisitions within Electronic Systems | performing well with more than $600m new contracts in 2021. Lead and inspire high-performance teams and individuals (see note 2 on page 157 as separately assessed within safety and diversity & inclusion underpin). Key successes in 2021 – Implemented stronger talent management framework across all levels and relaunched leadership and learning programmes online; established new gender diversity metrics, embedding our ambitions into process, practices, policies, systems and training. – Further increased mobility within our high- – Further increased mobility within our high- – Increased representation of women and people potential executive population including potential executive population including of colour in executive grades. cross-sector and stretch assignments. cross-sector and stretch assignments. – Progress in providing career development – Successful UK campaign for employees to update – Successful UK campaign for employees to update opportunities/support to employees in their self-identification, supporting our broader their self-identification, supporting our broader under-represented groups. diversity and inclusion goals. diversity and inclusion goals. – Improved employee sense of belonging through – Demonstrated inclusive leadership behaviours by – Demonstrated inclusive leadership behaviours by Inclusive Leader Goal for people leaders to understanding employee experiences – through understanding employee experiences – through engage in employee experience conversations. sponsorship and involvement in Employee sponsorship and involvement in Employee Resource Groups, visible leadership and direct Resource Groups, visible leadership and direct engagement with key groups, and pledges and engagement with key groups, and pledges and commitments to external charters. commitments to external charters. 158 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report Charles Woodburn Brad Greve Tom Arseneault President and Chief Executive Group Finance Director Chief Executive OfficerofBAE Systems, Inc. Build trust by operating to the highest standards of business conduct Key successes in 2021 – Acceleration of our sustainability agenda. | – Established Environment Net Zero roadmap | – Established Environment Net Zero roadmap | – Established Environment Net Zero roadmap | | --- | --- | --- | | withkey milestones identified and | withkey milestones identified and | withkey milestones identified and | | implementation commenced. | implementation commenced. | implementation commenced. | | – Reduced overall significant Group risk rating. | – Reduced overall significant Group risk rating. | – Reduced overall significant Group risk rating. | | – Progressed gender diversity across the Group. | – Progressed gender diversity across the Group. | – Progressed gender diversity across the Group. | | – Continued focus on employee safety and | – Continued focus on employee safety and | – Continued focus on employee safety and | | adapting to evolving environment to deliver | adapting to evolving environment to deliver | adapting to evolving environment to deliver | | oncustomers’ critical programmes. | oncustomers’ critical programmes. | oncustomers’ critical programmes. | | – Recruited a record number of apprentices | – Recruited a record number of apprentices | | | andgraduates in the UK. | andgraduates in the UK. | | | Achievements were offset by not | Achievements were offset by not | Achievements were offset by the ongoing | | meetingorganisation efficiency and | meetingorganisation efficiency and | impact of the pandemic in certain areas. | | effectivenesstargets. | effectivenesstargets. | | | Payout (% of maximum): | Payout (% of maximum): | Payout (% of maximum): | | 93% | 93% | 93% | | Safety and diversity & inclusion underpin: | Safety and diversity & inclusion underpin: | Safety and diversity & inclusion underpin: | | 95% | 95% | 95% | | Overall non-financial outturn: | Overall non-financial outturn: | Overall non-financial outturn: | | 88.5% | 88.5% | 88.5% | In relation to the safety and diversity and inclusion underpin, the requirements for diversity improvements were met but those for safety improvements were not achieved. Given the importance of safety to our Company, it was confirmed a reduction be applied to the non-financial element of the bonus. See page 157 for further details. The shared nature of thecommon strategic objectives and the fact that the overall level of performance in 2021 had been strong in most areas resulted in the executive directors achieving the same outturn. ## Long-Term Incentive Plan ( LTIP ) performance ### Annual average diluted underlying EPS growth Percentage of Outperformance of performance conditions ending on 31 December 2021 Threshold Maximum Actual maximum achieved 2021 EPS requirement 46.0p 51.1p 57.8p Annual average EPS growth 3% 7% 12.3% 100% ### Relative TSR against comparator groups Percentage of Outperformance of performance conditions ending on 31 December 2021 Threshold Maximum Actual maximum achieved TSR against sectoral comparator group 28.1% 52.1% 24.7% 0% TSR against FTSE 100 comparator group 19.6% 76.3% 24.7% 31.6% Overall vesting against TSR 15.8% 2019 Performance Shares (LTIP PS) Performance conditions: half on relative TSR against two comparator groups (with equal weighting), half on EPS growth of3% to 7% per annum. The three-year performance period ended on 31 December 2021. With respect to the 2019 LTIP PS TSR award, the threshold TSR performance was met against the FTSE 100 comparator group and therefore the TSR portion of theaward will vest at 15.8%. EPS With respect to the 2019 LTIP PS award, the vesting outturn has been determined as follows. The 2021 fully diluted underlying EPS, on an EBITA basis consistent with the 2018 EPS, is 50.3p. As detailed on pages 139 and 140, the Committee continued its practice of reviewing all non-recurring items to determine whether they should be included or excluded in determining the outcome of the EPS performance condition. The Committee therefore applied its agreed principles to make the following judgements. Firstly, in line with the terms of the award and the discretion provided to the Committee, it was agreed that the principle of constant currency should be used on the basis that the calculation of EPS will be adjusted if necessary so that the calculation of the EPS is broadly comparable with that for any other financial period. Second, the Committee chose to exercise its judgement over two items of ‘one-off’ events (EU State Aidand property disposal), noting that the achievement of stretch vesting required recognition of only one of these items. BAE Systems plc Annual Report 2021 159 Governance ## Annual remuneration report continued – EU State Aid – A full provision for a tax risk was made in 2019 when the EU contended that the Group had been in receipt of state aid provided illegally by the UK government. Management endeavour achieved a decision that the Group had not been in receipt of state aid and, as a result, in 2021, this provision was credited to profits to offset against the charge made in previous years. The Committee considered this decision to be a fair and appropriate adjustment and encouraged provision recognition when appropriate and rewarded successful outcomes when achieved. – Property disposal – During 2021, management completed a long and demanding negotiation for the sale of property atFilton and Broughton. The Committee regarded this disposal as a significant management achievement and exercised itsdiscretion to include the profit achieved in 2021 earnings in determining the performance outcome. The Committee was therefore satisfied that the performance condition was met and that it was appropriate for vesting at 100% ofthe EPS portion. Taking intoconsideration the overall business performance over the three-year performance period, the Committee believes thevesting outturns for both the TSR and EPS portions of the 2019 awards are appropriate. A summary of TSR performance to 31 December 2021 on outstanding TSR-related LTIP awards is illustrated in the chart below. The vesting percentage for the 20 March 2019 award is the actual vesting outturn referred to on page 159. The grey boxes show the range of TSR required for 25% vesting to full vesting in respect of the FTSE 100 and sectoral international defence comparator groups, as appropriate, and the orange circles show BAE Systems’TSR. The proportion that would vest is shown in the boxes at the top of the chart. TSR performance under the TSR-related awards as at 31 December 2021 15.8% vesting 20.3% vesting 45.9% vesting FTSE 100 comparator group 0% Sectoral comparator group 0% BAE Systems’ TSR 20 March 2019 25 March 2020 25 March 2021 ## Pension entitlements ### Total pension entitlements Figures included in the remuneration table on page 155 | | | | | | | | | | | | Added pension | | | Added pension | | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | | | | | | | | | value received in | | | value received in | | | | | | | | | | | | | | | | | the year from | | | the year from | | | | | | | | | | | Accrued | | | | Accrued | | | defined | | | defined | | | | | | | Normal | | | benefit at | | | | benefit at | | | benefit | | contribution | | | | | | | | | | | | 1 | | | | 1 | | | | | | | | | | | retirement | | | 1January 2021 | | | 31 December 2021 | | | | | scheme | | | scheme | | Total | | | Director Age | | | age | £ per annum | | | | £ per annum | | | | | £ | | | £ | | £ | Charles Woodburn 50 65 51,457 64,928 n/a 4,000 4,000 Brad Greve 54 65 18, 411 24,985 n/a 4,000 4,000 Tom Arseneault 58 65 See notes below 14,143 12,074 26,217 1. Accrued benefit for Charles Woodburn and Brad Greve is the total value of their defined contribution account, including employee contributions and investment returns. The above table has been subject to audit. Charles Woodburn participates in the BAE Systems Executive Pension Scheme Defined Contribution Retirement Plan (EPSDCRP), which is a defined contribution arrangement for senior executives. A salary supplement of £182,200 per annum waspaid in 2021 in lieu of the Company contributions in excess of those permitted by the Annual Allowance (£4,000 per annum from 6 April 2020), which are paid into the EPS DCRP. Brad Greve also participates in the BAE Systems EPS DCRP. The Company contributes the maximum into the EPS DCRP arrangement as permitted by the Annual Allowance (£4,000 per annum from 6 April 2020). An 8% salary supplement 80% ispaid in lieu of the Company contributions in excess of those permitted by the Annual Allowance which are paid into 70% theEPS DCRP. 60% 50% 40% 30% 20% 1 160 BAE Systems plc Annual Report 2021 award award award Financial statementsGovernanceStrategic report Tom Arseneault participates in US defined benefit and Section 401(k) arrangements as follows: Arrangement Accrued benefit at 1January 2021 Accrued benefit at 31 December 2021 BAE Systems ERP Qualified Plan – life pension $39,348 per annum $39,348 per annum BAE Systems ERP 2006 Qualified Plan – lump sum $82,000 $83,000 12/31/2004 BRP Restoration Plan – life pension $5,283 per annum $5,283 per annum 2007 BRP – 10-year pension $108,868 per annum $109,834 per annum Section 401(k) $1,352,745 $1,623,989 Accrued defined benefit for Tom Arseneault is annual pension and lump sum payable at retirement prior to any reduction forearly retirement. Tom Arseneault also participates in a Section 401(k) defined contribution arrangement set up for USemployees in which the Company will match his contributions up to a maximum contribution of 6% of salary, up to US regulatory limits(2022 $20,500; 2021 $19,500). In 2021, the Company paid contributions of $16,353 into this arrangement. Accrued Section 401(k) benefit for Tom Arseneault is the total value of his Section 401(k) account including both employee and Company contributions as well as investment returns. ## Share interests ### Scheme interests awarded during the financial year Percentage ofinterests receivable | | | Face value | | Exercise | | | Date to which | | | ifminimum | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | 1 | | | 1 | | | | | | | Number | of award | | | price | | performance | Performance | | performance | | Scheme Type of interest Date of grant | of shares Basis of award | | £ | | | £ | ismeasured | | condition | achieved | Charles Woodburn TSR LTIP PS Performance 25.03.21 204,936 92.5% of salary 1,024,475 nil Three years TSR/secondary 25% Shares/nil to31.12.23 financial measure costoption EFS LTIP PS Performance 25.03.21 614,806 277.5% of salary 3,073,415 nil Three years EFS 25% Shares/nil to31.12.23 costoption Brad Greve TSR LTIP PS Performance 25.03.21 104,239 83.75% of salary 521,091 nil Three years TSR/secondary 25% Shares/nil to31.12.23 financial measure costoption EFS LTIP PS Performance 25.03.21 312,718 251.25% of salary 1,563,277 nil Three years EFS 25% Shares/nil to31.12.23 costoption Tom Arseneault TSR LTIP PS Performance 25.03.21 108,764 74.5% of salary 543,711 n/a Three years TSR/secondary 25% Shares to31.12.23 financial measure EOS LTIP PS Performance 25.03.21 326,290 223.5% of salary 1,631,124 n/a Three years EOS 25% Shares to31.12.23 LTIP RS Retention 25.03.21 218,987 150% of salary 1,094,716 n/a n/a n/a n/a 1. The value of the award is calculated on the date of grant by reference to the middle market quotation at the close of the preceding day. Key: LTIP – Long-Term Incentive Plan. PS – Performance Shares. RS – Restricted Shares. TSR – Total Shareholder Return. EFS – Earnings per share, FreeCash Flow and Strategic Progress. EOS – Earnings per share, BAE Systems, Inc. Operating Cash Flow and Strategic Progress. The performance share awards set out above have four performance conditions of EPS, TSR, cash generation and measures reflecting strategic progress with each condition equally weighted at 25%. Further detail on these performance conditions is set out on page 163. Note: Performance Shares and Restricted Shares – Shares under award attract notional reinvested dividends prior to vesting. Performance Shares are intended to be free share awards and are structured as a nil cost option to give the participant more flexibility as to the timing of the benefit. For the US executive director, awards of Performance Shares are classified as conditional share awards (rather than share options) and are deliverable on the third, fourth and fifth anniversary of grant, subject to attainment of the performance condition. For the UK executive directors, shares vest on the fifth anniversary of grant. The table above has been subject to audit. BAE Systems plc Annual Report 2021 161 Governance ## Annual remuneration report continued Description of share plans and summary of performance conditions Long-term incentives operate under the BAE Systems Long-Term Incentive Plan (LTIP) approved by shareholders at the 2014AGM. The three main vehicles in use are Performance Shares, Restricted Shares and Share Options. From 2018 executive directors no longer receive share option awards. They are used below executive director level without performance conditions (as detailed on page 146) and are generally exercisable between three and ten years of grant. LTIP Performance Shares For 2017, shares under award vest after satisfaction of the three-year performance condition. Awards that vest are capable of being exercised in three equal tranches on a phased basis from the third, fourth and fifth anniversary of grant. Any unexercised awards will lapse on the seventh anniversary of grant. From 2018, awards to UK executive directors remain subject to the three-year performance period but will not vest until the fifth anniversary of grant and will be exercisable until the seventh anniversary of grant. For US participants, the awards are automatically delivered in three equal tranches at the end of years three, four and five, subject to the performance condition being achieved. Shares under award attract notional reinvested dividends prior to tranche vesting. Existing awards granted up to 2020 are weighted 50% on the EPS performance condition and 50% on the TSR performance condition as set out below. The TSR sectoral comparator group is shown below. Plan Performance condition EPS LTIP PS Rate of average annual diluted underlying EPS growth over the three-year performance period, with 25% vesting at3%average growth per annum, 50% vesting at 5% average growth per annum and 100% vesting at 7% average growth per annum, with vesting on a straight-line basis between these parameters. TSR LTIP PS The proportion of the award capable of exercise is determined by: (i) 50% of the TSR measure is on the sectoral comparator group of other international defence companies and 50% ison a TSR percentile ranking against the companies in the FTSE 100 index. Under both the sectoral and FTSE 100 comparator groups, no shares vest if the Company’s TSR is less than median TSRs achieved by the comparator group, with 25% vesting at median, 100% vesting if the Company’s TSR is in the top quintile and vesting on a straight-line basis between these two parameters; and (ii) whether there has been a sustained improvement in the Company’s underlying financial performance. In taking 1 such a view, the Committee may consider (but not exclusively) the following financial metrics: net cash/debt; EBIT ; order book; turnover; risk; and project performance. 1. With effect from 2021, the Group adopted the underlying EBIT profitability measure in place of the previously reported EBITA measure. Further details of this change are provided in the Financial glossary on page 78. The TSR sectoral comparator group for awards from 2017–2019 comprises: | Cobham | Leonardo | SAIC | | --- | --- | --- | | General Dynamics | Lockheed Martin | Thales | | Harris Corporation | Meggitt | United Technologies | | L3 Technologies | Northrop Grumman | | | Leidos | Raytheon | | The TSR sectoral comparator group for awards made in 2020 comprises: | General Dynamics | Lockheed Martin | SAIC | | --- | --- | --- | | L3 Harris Technologies | Meggitt | Thales | | Leidos | Northrop Grumman | | | Leonardo | Raytheon Technologies | | For awards granted in 2021, the Company’s TSR is measured against a single comparator group of the companies in the * FTSE100 index excluding BAE Systems . * As disclosed in the 2020 Annual Report, it was originally intended that the TSR comparator group for the 2021 Performance Share awards would be a defined subset of the FTSE 100 index. At the end of March 2021, awards were granted using such a subset. Following a further review at the May 2021 Committee meeting, the Committee agreed that, for future awards, it would be more appropriate for the comparator group to consist of all the companies within the FTSE 100 index, on the basis that it provided a broader, more stable, durable and relevant group against which toassess relative performance. As only a very short period had elapsed since making the March 2021 Performance Share awards, the Committee agreed itwould be appropriate to apply consistency and amended the TSR element of the performance criteria for the 2021 award such that thoseawardswould also be subject to the full FTSE 100 comparator group. 162 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements For awards granted from 2021 onwards, four performance conditions of EPS, TSR, cash generation and measures reflecting strategic progress will apply with each condition equally weighted at 25%. | Plan | Performance condition | | --- | --- | | LTIP PS^{EPS} | Rate of average annual diluted underlying EPS growth over the three-year performance period, with 25% vesting at 3% average growth per annum, 50% vesting at 5% average growth per annum and 100% vesting at 7% average growth per annum, with vesting on a straight-line basis between these parameters. | | LTIP PS^{TSR} | The proportion of the award capable of vesting is determined by: (i) The Company's TSR measured against a single comparator group of the companies in the FTSE 100 index. No shares vest if the Company's TSR is less than the median TSRs achieved by the comparator group, with 25% vesting at median, 100% vesting if the Company's TSR is in the top quintile and vesting on a straight-line basis between these two parameters; and (ii) whether there has been a sustained improvement in the Company's underlying financial performance. In taking such a view, the Committee may consider (but not exclusively) the following financial metrics: net cash/debt; EBIT; order book; turnover; risk; and project performance. | | LTIP PS^{FCF} Applicable to UK directors only | Three-year cumulative Free Cash Flow (FCF) at a Group level, with 25% vesting at threshold, 50% vesting at target and 100% vesting at stretch, with vesting on a straight-line basis between these parameters. Due to commercial sensitivity, the targets will be disclosed retrospectively after the end of the relevant financial year. | | LTIP PS^{TCF} Applicable to US director only | Three-year Operating Cash Flow (OCF) in respect of the BAE Systems, Inc. business, with 25% vesting for threshold performance, 50% vesting for target performance and 100% vesting for stretch performance, with vesting on a straight-line basis between these targets. Due to commercial sensitivity, the targets will be disclosed retrospectively after the end of the relevant financial year. | | LTIP PS^{SP} | The proportion of the award capable of vesting is determined by the following three key strategic objectives, each with equal weighting. Due to commercial sensitivity, the targets will be disclosed retrospectively after the end of the relevant financial year. (i) **Drive operational excellence.** Focuses on the adherence to project plans of mission-critical projects. Measured by the metric of On Time Delivery, evaluated against an approved set of customer contracts, in a manner consistent with the normal course of business. Contracts are representative of each main business sector, having regard to execution risk, scale and duration. For our US executive director, On Time Delivery will be measured against BAE Systems, Inc. contracts only. The Company's robust quality and safety processes will continue to apply. Target performance achieved for equal or better than aggregated On Time Delivery three-year average. Threshold and stretch performance levels will also apply, with final vesting outturn between 0% and 100% of this element. (ii) **Continuously improve competitiveness and efficiency.** Measured by three-year Return on Capital Employed (ROCE) to support continually improving our competitiveness in order to drive profitable growth benefiting all of our stakeholders. For 2021: 25% vesting for 25bps reduction in 2023 ROCE, 50% vesting for 2023 ROCE consistent with the Integrated Business Plan (IBP) 2020 and 100% vesting for 25bps improvement in 2023 ROCE, with vesting on a straight-line basis between these parameters. For 2022: 25% vesting for 25bps reduction in ROCE compared to 2021, 50% vesting for 2024 ROCE consistent with the IBP 2021 and 100% vesting for 25bps improvement in ROCE compared to 2021, with vesting on a straight-line basis between these parameters. (iii) **Advance and leverage our technology.** Effective programme delivery for major technology programmes will be used to measure our effectiveness at driving technology adoption. Over the three-year performance period, the selected projects will be measured against their key project milestones. The vesting outcome will be derived from the outturn of each of the projects (between 0% and 100% of this element) with final approval by the Committee. | Note that in accordance with the Directors' remuneration policy, Performance Share awards granted to executive directors are subject to application of reasonableness discretion in light of other important factors in the business. #### LTIP Restricted Shares Restricted Shares are not subject to a performance condition as they are designed to address retention issues principally in the US. The shares are subject only to the condition that the participant remains employed by the Group at the end of the vesting date (three years after the award date). Shares under award attract notional reinvested dividends prior to vesting. Awards made to the US executive director are subject to a further two-year clawback period after the initial three-year vesting period. BAE Systems plc Annual Report 2021 163 Governance # Annual remuneration report continued ## Statement of directors' shareholdings and share interests ### Minimum Shareholding Requirement (MSR) Executive directors are required to establish and maintain a minimum personal shareholding equal to a set percentage of base salary as set out in the table below. Executive directors are required to achieve their Initial Value as quickly as possible, and achieve their Subsequent Value within a five-year time period. Where an executive director has not achieved their MSR, the consequence is a restriction on the number of shares that can be sold on exercise or release, until their MSR Subsequent Value is met. Where an executive director has met less than the Initial Value (50% of their MSR), they must retain 50% of the net value (i.e. the value after the deduction of exercise/sale costs and tax) of shares acquired through the various share schemes; if they have met the Initial Value but not the Subsequent Value (i.e. between 50% and 100% of their MSR), they must retain 25% of the net value. In the event that the executive director has not met the Subsequent Value at the end of the five-year period, the Committee will set out their proposed remedial actions at that time. The Committee has discretion to increase the Initial Value and/or Subsequent Value. Shares owned beneficially by the director and his/her spouse count towards the MSR. With effect from adoption of the 2020 Remuneration Policy at the AGM on 7 May 2020, where an executive director leaves employment for any reason, a post-cessation shareholding policy will apply. For UK executive directors, the policy is based on the full MSR continuing to apply for a period of two years. For US executive directors, the policy is based on 300% MSR applying for a period of one year. Executive directors will be required to sign a contract on leaving employment to ensure compliance with this policy. Any case of non-compliance would be dealt with by the Committee. The following table sets out MSR Initial Value and Subsequent Value and actuals as at 31 December 2021: | | Initial Value | Subsequent Value | Actual | | --- | --- | --- | --- | | Charles Woodburn | 150% | 300% | 188% | | Brad Greve | 100% | 200% | 51% | | Tom Arseneault | 212.5% | 425% | 359% | The actual MSR figures in the table are provided as at 31 December 2021, based on the year-end share price of £5.498. The higher MSR values applicable to Tom Arseneault recognise the higher LTI opportunity and broader US market practice. There are MSR requirements in place for all of the employee population who receive LTIPs. There are no shareholding requirements for the Chairman or the non-executive directors. Prior to the 2020 Remuneration Policy coming into effect on 7 May 2020, the MSR policy did not apply after the individual ceased to be a director. However, as disclosed previously, the Committee agreed specific arrangements for post-cessation shareholding levels for Peter Lynas and Jerry DeMuro. On his retirement on 31 March 2020, Peter Lynas became subject to a reduced MSR of 100% of salary for a period of two years. Following cessation of employment on 31 December 2020, Jerry DeMuro became subject to a MSR of 300% of salary for a period of one year. Peter Lynas' and Jerry DeMuro's post-cessation MSR as at 31 December 2021 are shown below. | | Post-cessation MSR | Actual | | --- | --- | --- | | Peter Lynas | 100% | 308% | | Jerry DeMuro | 300% | 641% | 164 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## Share interests as at 31 December 2021 The interests of the directors who served during the year ended 31 December 2021 in the shares of BAE Systems plc, or scheme interests in relation to those shares, were as follows: | | Shares | Scheme interests: Options and awards over shares | | | | | | | --- | --- | --- | --- | --- | --- | --- | --- | | | | Share awards with performance conditions | Share awards without performance conditions | Share options with performance conditions | Share options with performance conditions, vested but unexercised | Share options without performance conditions | Total scheme interests | | Sir Roger Carr | 166,549 | – | – | – | – | – | – | | N J Anderson | 14,000 | – | – | – | – | – | – | | T A Arseneault | 488,758 | 1,076,041 | 518,975 | – | – | 2,028,576 | 3,623,592 | | C E Ashby^{1} | – | – | – | – | – | – | – | | Dame Elizabeth Corley | 19,000 | – | – | – | – | – | – | | Dame Carolyn Fairbairn^{2} | 15,000 | – | – | – | – | – | – | | B M Greve | 57,938 | – | – | 838,210 | – | – | 838,210 | | J V Griffiths | 10,117 | – | – | – | – | – | – | | C M Grigg | 24,555 | – | – | – | – | – | – | | E M Kirk^{2} | – | – | – | – | – | – | – | | S T Pearce | 10,000 | – | – | – | – | – | – | | N W Piasecki | – | – | – | – | – | – | – | | I P Tyler | – | – | – | – | – | – | – | | C N Woodburn | 380,328 | – | – | 2,883,445 | – | – | 2,883,445 | 1. Appointed to the Board on 1 September 2021. 2. Appointed to the Board on 1 March 2021. 3. Appointed to the Board on 1 June 2021. Note: The share options without performance conditions were granted to Tom Arseneault prior to him being appointed as an executive director. Of these options, 1,676,105 are vested but unexercised. The related breakdown of these options is shown on page 166. The above table has been subject to audit. The interests of directors include those of their connected persons. Details of the share interests in options and awards held by the executive directors as at 31 December 2021 are given on page 166 together with details of nil-cost options exercised in 2021. Performance Shares granted under the LTIP are classified as share awards with performance conditions for the US executive director and as nil-cost options with performance conditions for the UK executive directors. Since 31 December 2021, both Charles Woodburn and Brad Greve have each acquired an additional 74 shares under the Partnership and Matching Shares elements of the Share Incentive Plan so that their beneficial shareholdings at the date of this report stood at 380,402 and 58,012 respectively. There have been no changes in the interests of the remaining directors in the shares of BAE Systems plc between 31 December 2021 and the date of this report. BAE Systems plc Annual Report 2021 165 Governance ## Annual remuneration report continued Breakdown of scheme interests | Charles Woodburn | | | | | | | | | | | Tom Arseneault | | | | | | | | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | Options and awards held as at 31 December 2021 | | | | | | | | | | | Options and awards held as at 31 December 2021 | | | | | | | | | | | | | | | | | | | Exercise | | Date from which | | | | | | | | | Exercise | | Date from which | | | | | 31 December | | | | Date of | price | | exercisable or part | | | | 31 December | | | | Date of | price | | exercisable or part | | | | | | | 2021 | | grant | | £ | | exercisable | | | | | 2021 | | grant | | £ | | exercisable | | | EPS | | | | 1 | | | | | | | EPS | | | | 1 | | | | | | | LTIP PS | | | 44,301 | | | 21.03.17 nil 21.03.22 | | | | | LTIP PS | | | 21,864 | | | 21.03.17 n/a 21.03.22 | | | | | | | TSR | | | | 2 | | | | | | | EPS | | | | 1 | | | | | | | LTIP PS | | | 285,227 | | | 20.03.18 nil 20.03.23 | | | | | LTIP PS | | | 21,991 | | | 20.03.18 n/a 20.03.22 | | | | | | | EPS | | | | 2 | | | | | | | TSR | | | | 3 | | | | | | | LTIP PS | | | 285,227 | | | 20.03.18 nil 20.03.23 | | | | | LTIP PS | | | 86,572 | | | 20.03.19 n/a 20.03.22 | | | | | | | TSR | | | | 3 | | | | | | | EPS | | | | 1 | | | | | | | LTIP PS | | | 350,737 | | | 20.03.19 nil 20.03.24 | | | | | LTIP PS | | | 86,572 | | | 20.03.19 n/a 20.03.22 | | | | | | | EPS | | | | 1 | | | | | | | TSR | | | | 4 | | | | | | | LTIP PS | | | 350,737 | | | 20.03.19 nil 20.03.24 | | | | | LTIP PS | | | 211,994 | | | 25.03.20 n/a 25.03.23 | | | | | | | TSR | | | | 4 | | | | | | | EPS | | | | 4 | | | | | | | LTIP PS | | | 373,737 | | | 25.03.20 nil 25.03.25 | | | | | LTIP PS | | | 211,994 | | | 25.03.20 n/a 25.03.23 | | | | | | | EPS | | | | 4 | | | | | | | TSR | | | | 4 | | | | | | | LTIP PS | | | 373,737 | | | 25.03.20 nil 25.03.25 | | | | | LTIP PS | | | 108,764 | | | 25.03.21 n/a 25.03.24 | | | | | | | TSR | | | | 4 | | | | | | | EOS | | | | 4 | | | | | | | LTIP PS | | | 204,936 | | | 25.03.21 nil 25.03.26 | | | | | LTIP PS | | | 326,290 | | | 25.03.21 n/a 25.03.24 | | | | | | | EFS | | | | 4 | | | | | | | | | | | | | | | | | | LTIP PS | | | 614,806 | | | 25.03.21 nil 25.03.26 | | | | | | | | 1,076,041 | | | | | | | | | | | | 2,883,445 | | | | | | | | LTIP SO 288,602 25.03.13 3.89 25.03.16 | | | | | | | | | | | LTIP SO 304,245 26.03.14 4.12 26.03.17 Performance Shares – nil cost options exercised during 2021 LTIP SO 258,380 25.03.15 5.43 25.03.18 | Exercised | | Exercise | | | | | Market price | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | during the | | | price | | Date of | Date of | on exercise | | LTIP SO 289,258 23.03.16 4.99 23.03.19 | | | year | | | £ | grant | exercise | | £ | LTIP SO 267,026 21.03.17 6.49 21.03.20 | EPS LTIP PS 44,298 nil 21.03.17 24.03.21 5.00 LTIP SO 268,594 20.03.18 5.82 20.03.21 The Performance Shares nil-cost options exercised by Charles Woodburn attracted LTIP SO 352,471 20.03.19 4.85 20.03.22 notional reinvested dividends which equated to an additional 7,211 shares on 2,028,576 exercise of these options. LTIP RS 86,572 20.03.19 n/a 20.03.22 LTIP RS 213,416 25.03.20 n/a 25.03.23 Brad Greve LTIP RS 218,987 25.03.21 n/a 25.03.24 Options and awards held as at 31 December 2021 518,975 | | | | | | | | Exercise | | Date from which | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | 31 December | | | | Date of | price | | exercisable or part | | | | | | | | 2021 | | grant | | £ | | exercisable | Note: The share options granted to Tom Arseneault between 2013–2019 as set | | | TSR | | | | 4 | | | | | | outabove were granted prior to him being appointed as an executive director | | LTIP PS | | | 210,626 | | | 25.03.20 nil 25.03.25 | | | | | | anddo not have performance conditions attached to them. Options are normally EPS 4 LTIP PS 210,627 25.03.20 nil 25.03.25 exercisable between the third and tenth anniversary of their grant. Share options | | TSR | | 4 | | | | --- | --- | --- | --- | --- | --- | | LTIP PS | | 104,239 | | 25.03.21 nil 25.03.26 | granted to him from 2015 onwards are subject to a two-year clawback period | | | EFS | | 4 | | afterthe initial three-year vesting period. | | LTIP PS | | 312,718 | | 25.03.21 nil 25.03.26 | | 838,210 Note: As reported in the Remuneration Committee Chair’s report in the 2020Annual Report, in light of the volatility in the market during March 2020, theCommittee attached an additional condition to the 2020 awards to retain theability to exercise discretion to ensure that the value of the 2020 awards atvesting is appropriate. As reported in the Remuneration Committee Chair’s report on page 140, a similar condition was applied to the 2021 awards in light of volatility in the market in March 2021. The tables above have been subject to audit. Performance conditions for the LTIP are detailed on page 162. 1. Subject to a performance condition that has been met. 2. All shares due to vest subject to agreed terms. 3. The outstanding award or option will partially lapse after the end of the financial year having not met the full performance condition. 4. Subject to a performance condition that is yet to be tested. 166 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Remuneration Committee composition and advisers The Committee members comprise Ian Tyler (Chair), Dame Carolyn Fairbairn, Dame Elizabeth Corley and Chris Grigg. DameCarolyn Fairbairn joined the Committee on 1 October 2021 and will succeed Ian Tyler as Chair with effect from theclose of the Company’s AGM on 5 May 2022, when Ian Tyler retires from the Board. Advisers to the Remuneration Committee are shown below. During the year under review, the Committee received material assistance and advice on remuneration policy from theGroup Human Resources Director, Karin Hoeing and the Human Resources Director, Reward, Claudia Terry. CharlesWoodburn in his role as Chief Executive also provided advice that was of material assistance to the Committee. Fees (in respect ofservices provided | Adviser Services provided Appointment Governance | | | | tothe Committee) | | --- | --- | --- | --- | --- | | PricewaterhouseCoopers | Independent adviser to the Committee, | Committee | The Committee is aware that PwC | £77,879 | | (PwC) | including attendance at Remuneration | appointment. | providesavariety of other services to | | Fee basis: Fixed fee/ Committee meetings. theCompany, including tax and pensions hourly advice. PwC also provides a range of Also provided information onmarket By the Company consultancy services. practice in relation to different aspects attherequest of of remuneration, market trends and theCommittee. The Committee is satisfied that the PwC LLP benchmarking oftheremuneration engagement partner and team, who provide packages for theexecutive population. remuneration advice to the Committee, do not have connections with the Group, or the individual directors, that may impair their independence and objectivity. PwC is a member of the Remuneration Consultants Group (RCG) and is a signatory tothe RCG’s code of conduct. Provides support in relation to assessing By the Company. The nature of the advice provided to the £13,000 the TSR performance updates and Committee is based on factual information Fee basis: Fixed fee | | vesting outcomes for in-flight awards | | concerning the performance of the | | | --- | --- | --- | --- | --- | | | granted under the BAE Systems | | Company’s shares relative to the chosen | | | | Long-Term Incentive Plan 2014. | | peer group(s). | | | Linklaters Provided legal services, principally | | By the Company | Only provides legal compliance, legal | £37,677 | | | advice regarding remuneration | with theapproval | draftingand reviewservices, and does | | Fee basis: Hourly reporting and remuneration awards. ofthe Committee. notadvise the Committee. The Committee is aware that Linklaters is oneof a number of legal firms that provide legal advice andservicesto the Company onarange of matters. Linklaters is regulated by the LawSociety. Aon Until April 2021, provided advice By the Company. The Committee is aware that Aon provides £9,900 ontheTSRoutcomes as required for avariety ofother human resources-related Fee basis: Fixed fee assessing the performance condition services to theCompany. under the BAE Systems Long-Term The nature of the advice provided to the Incentive Plan 2014. Committee is limited to factual information concerning the performance of the Company’s shares. BAE Systems plc Annual Report 2021 167 Governance ## Preface to the ## Directors’ remuneration policy ## The Directors’ remuneration policy (the Policy) set out on pages 169 to 183 was agreed ## byshareholders at the Annual General Meeting on 7 May 2020 and took legal effect on ## that date. The approved policy has been printed verbatim from the 2019 Annual Report, ## updated only so that the page numbers, where appropriate, refer to the 2021 Annual ## Report in order to aid readability, and to report subsequent Board membership changes. ### Directors’ remuneration for 2022 Illustration of application of policy for 2022 For 2022, it remains our intention to operate the Policy that was The following charts show the value of the package each of the agreed by shareholders at the 2020 AGM. This section sets out executive directors would receive based on 2022 base salaries, howthe Policy will apply in 2022. remuneration and 2022 LTI awards assuming the following scenarios: 1. minimum fixed pay (including salary, benefits and pension as ### Metrics and weightings applicable in 2022 provided in the single total figure table on page 155), and the – The performance metrics and weightings applicable to the 2022 Restricted Shares award for the US executive director; annual incentive are 75% on financial metrics relating to earnings, 2. pay receivable assuming on-target performance is met; cash and order intake at a Group level and additionally, in the case of the US executive director, at a BAE Systems, Inc. level. The 3. maximum pay assuming all variable elements pay out in full; and remaining 25% is measured on shared key strategic objectives 4. 50% share price appreciation on maximum payout. relating to the delivery of the Group’s strategy including objectives The minimum, on-target and maximum scenarios exclude any specifically focused on our sustainability agenda, and the shareprice appreciation and dividends. 50% share price appreciation demonstration of leadership behaviours. The safety and diversity assumes all variable elements pay out in full and there is 50% gain underpin to the non-financial element of executive directors’ inshare price in respect of Performance Shares and Restricted Shares bonus will remain, with the requirement to uphold and deliver awards received. UK legislation requires that these charts are given ourcommitment to high standards of safety and a diverse and inrelation to the first year in which the remuneration policy takes inclusive workforce. Thefollowing metrics and weightings will legal effect (see page 178). The charts below are reporting the apply for 2022: remuneration levels for 2022. Non-financial metricsFinancial metrics 75% 25% Chief Executive Order (£’000) | Earnings Cash Key strategic objectives | | intake | | | | | | --- | --- | --- | --- | --- | --- | --- | | 45% | 22.5% 7.5% | | 25% | | | | | | | | | 5 0% share price | | | | | | | | | 13% 25% 62% | 10,217 | appreciation – There are no changes proposed to the quantum applicable to Maximum 17% 31% 52% 8,117 theexecutive directors, and one-third of the net annual incentive On-target 32% 30% 38% 4,215 will continue to be deferred into shares for three years on a Minimum 100% 1,363 compulsory basis. – Performance shares will continue to be measured over a three-year 0 2,000 4,000 6,000 8,000 12,00010,000 Value of package (£’000) period against cumulative cash generation, a metric reflecting strategic progress, Earnings per Share (EPS) and relative Total Shareholder Group Finance Director Return (TSR), each with equal weighting of 25% as follows: (£’000) – Cash generation metric will be measured as cumulative free cash flow at a Group level for UK executive directors, and operating 5 0% share price 14% 21% 65% 4 ,945 appreciation cash flow of the US business for the US executive director. Maximum 18% 26% 56% 3,877 – Strategic progress metric will be measured against quantifiable On-target 35% 25% 40% 2,032 targets based on our three key strategic pillars of drive Minimum 100% 720 operational excellence, continuously improve competitiveness and efficiency, and advance and leverage our technology. 0 1,000 2,000 3,000 4,000 5,000 Value of package (£’000) – TSR condition measured against the FTSE 100 index constituents, with no change to the performance requirements. President and Chief Executive Officer – EPS condition has a performance range of 3% to 7% average of BAE Systems, Inc. ($’000) annual EPS growth requirement. 5 0% share price – There is no change in 2022 to the criteria and weightings applying 33% 22% 45% 10,604 appreciation to Restricted Shares. Maximum 33% 29% 38% 8,247 – UK executive directors will continue to receive Performance Shares On-target 54% 23% 23% 5,104 only. The US executive director will continue to receive an equal weight Minimum 100% 2,745 in expected value in Performance Shares and Restricted Shares. 0 2,000 4,000 6,000 8,000 12,00010,000 Below executive director level for 2022: Value of package ($’000) – UK and Rest of World participants will be measured against the Fixed elements of remuneration free cash flow, strategic progress and EPS metrics set out above, Annual bonus each with equal weighting. Performance Shares – US participants will be measured against the operating cash flow of BAE Systems, Inc., strategic progress and EPS metrics set out above, each with equal weighting. 168 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Directors’ remuneration policy ## This Directors’ remuneration policy (the Policy) will take legal effect from the ## conclusion of the 2020 Annual General Meeting (AGM) subject to shareholder ## approval at the 2020 AGM. | The Remuneration Committee (the | The Committee is governed by Terms | | | --- | --- | --- | | Committee) considers the remuneration | ofReference which set out their roles | Contents | | policy annually to ensure that it remains | andresponsibilities including how the | Revisions compared to the policy | | aligned with business needs and is | Committee will be conducted and operate. | approvedatthe 2017 AGM 170 | | appropriately positioned relative to the | These are reviewed at least annually to | | Executive directors’ policy table 171 | market. However, in the absence of | ensure they remain appropriate and include | | | --- | --- | --- | | exceptional or unexpected circumstances | relevant corporate governance and other | – Base salary 171 | | which may necessitate a change to the | guidance. The Terms of Reference are | – Annual incentive 171 | | Policy, there is currently no intention to | available on the Company’s external | | – Long-Term Incentives 173 revise the Policy more frequently than website. Our Long-Term Incentive Plan – Benefits 175 everythree years. provides the Committee with discretion with respect of vesting outcomes that – Pension 176 The Policy is to set base salary with affectthe actual level of reward payable reference to the relevant market-competitive Remuneration policy toindividuals; as explained on page 173, level. We use target performance to for other employees 177 such discretion would only be used in estimate and benchmark the total potential exceptional circumstances and, if exercised, Performance measures and targets 177 reward against reward packages paid by disclosed at the latest in the report on BAE Systems’ competitors. Actual total Minimum Shareholding implementation of the Policy (i.e. the direct reward reflects the performance of Requirement 177 Annual remuneration report) for the the individual and the Company as a whole. yearinquestion. Illustration of application The aim is to deliver an overall remuneration ofremunerationpolicy 178 | package for executive directors which | The Committee has appointed independent | | | --- | --- | --- | | provides an appropriate balance between | external advisers to receive material | Non-executive directors’ | | short-term and long-term reward and | independent assistance and advice. In | policy table 179 | | between fixed and variable reward as | addition, to avoid any conflicts of interest | | Recruitment 180 | described more fully below. | orappearance thereof, no director is | | | --- | --- | --- | | | involved in deciding their own remuneration | Service contracts and | | | outcome with such items being discussed | letters of appointment 181 | without their presence in the meeting. Policy on payment for loss of office 182 Consideration of employmentconditions elsewhere in the Company 183 Stakeholder considerations 183 ### Note References in this Policy to ‘UK executive directors’ are to UK-based executive directors andreferences to ‘US executive directors’ are to US-based executive directors. BAE Systems plc Annual Report 2021 169 Governance ## Directors’ remuneration policy continued ### Revisions compared to the policy – Maintain ability to adjust the weightings Minimum Shareholding Requirement of the performance conditions and if (MSR) ### approved at the 2017 AGM considered appropriate, the Committee Acknowledging the relevant provisions The Policy contains no components may introduce an alternate performance ofthe Corporate Governance Code as whichwere not in the remuneration policy condition aligned to the Company’s wellas broader expectations of investors approved at the 2017 AGM. A description strategy, or remove a performance inrelation to MSR, the following have and explanation of all significant changes condition set out above, but with a beenintroduced: from the policy approved in 2017 are minimum of 20% weighting always summarised below. – Introduction of five-year time period applying to the Total Shareholder achieving Minimum Shareholding Annual incentive Return(TSR) metric. Requirement (MSR) applicable to all – Confirmation that non-financial metrics – Confirmation of the range of values executive directors. will continue to be based on a combination possible for Performance Shares and – Continue to apply restriction on number of personal performance objectives Restricted Shares. of shares that can be sold on exercise or linkedto our strategic objectives, safety Pension release, until the MSR is met. If less than measures, and diversity and inclusion – Participation in executive defined 50% of MSR has been met, 50% of the targets. However, from 2021, safety, contribution retirement plan (or cash net value (i.e. the value after deduction diversity and inclusion targets will be equivalent) as default pension vehicle ofexercise/sale costs and tax) of shares reflected in the ultimate reward on the with 8% employer contribution for acquired through the various share basis of being an ‘underpin’. In other newlyexternally-appointed UK executive schemes must be retained; if between words, the Board expects safety, diversity directors or internally-appointed UK 50% and 100% of MSR has been met, and inclusion targets to be met in all executive directors, consistent with 25% of the net value must be retained. circumstances; the Committee will, as a thatavailable to the wider UK workforce Inthe event that the executive director general matter, use its discretion to adjust in the Company’s UK defined isstill not compliant with their MSR at the overall annual incentive in the event contributionarrangements. theend of the five-year period, the of below-target performance. Committee will set out their proposed – The annual value of the current Long-Term Incentives (LTI) remedial actions at that time. ChiefExecutive’s contributions will | – To continue the simplification of our | befixed at the monetary value of his | – Introduction of post-cessation | | --- | --- | --- | | LTIframework, since 2018, share options | 2020 employer pension contribution | shareholding policy applicable to all | | have not been granted to any executive | of£186,200 per annum as a salary | executive directors. For UK executive | | directors. As a result, UK executive | supplement. Assuming average salary | directors, the policy is based on the full | | directors receive Performance Shares | increases in the region of 2.5% per | MSR continuing to apply for a period | | onlyand US executive directors receive | annum, fixing the monetary value at this | oftwo years. For US executive directors, | | amix of Performance Shares and | level will align the employer contribution | the policy is based on 300% MSR | | Restricted Shares, to maintain current | rate applicable to the Chief Executive to | applying for a period of one year. | | Expected Value. | the weighted average employer rate of | Executive directors will be required to | | | 17% over a period of around four years. | signa contract on leaving employment | – Introduction of a cash generation toensure compliance with this policy. measure and a metric reflecting strategic Remuneration policy for other progress in addition to existing Earnings Non-executive directors’ fees employees per Share (EPS) and relative Total maximumopportunity – Confirmation that LTI grants will continue Shareholder Return (TSR) conditions to be made in line with 2020 policy with – Confirmation that the current Chairman’s toapply to Performance Shares. Each the following differences: fee has been fixed at £700,000 from metric will be equally weighted at 25%. 1 February 2020 and is fixed at this level Introduction of these additional measures – for US participants below Executive through the duration of his final term is designed to capture the financial Committee level, performance ofoffice ending at the AGM in 2023. ambitions for the Company and provide conditions and targets for performance focus on objectives that reflect our share grants are tailored to reflect the Consideration of employment strategic priorities. Confirmation that we strategic context and focus for the conditionselsewhere in the Company intend to disclose the areas of strategic USbusiness; and Further details provided in relation to progress in each year, but the specific – share options may continue to be building the Committee’s understanding metrics of measure will be disclosed granted below executive director ofreward arrangements applicable to prospectively only to the extent that levelwithout performance conditions thewider workforce. theyare not commercially sensitive. attached and vest and are exercisable Stakeholder considerations after three years. Further details provided in relation to the Committee’s engagement with shareholders on the topic of executive remuneration. 170 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Executive directors’ policy table ### Base salary Purpose and link to strategy Recognise market value of role and individual’s skills, experience and performance to ensure the business can attract andretain talent. Operation Salaries are reviewed annually. Business and individual performance, skills, the scope of the role and the individual’s time in the role aretaken into account when setting and assessing salaries, as is market data for similar roles in the relevant market comparator group. The comparator group for UK executive directors is comprised of selected companies from the FTSE 100 and is constructed to position BAE Systems around the median in terms of market capitalisation. For the Chief Executive Officer of BAE Systems, Inc., the comparator group is drawn from companies in the US aerospace and defence sectors, together with similar organisations in the general industry sectorwhere BAE Systems, Inc. is positioned at the median of the comparator group by reference to revenue size. Maximum opportunity When considering salary increases for the executive directors in their current roles, the Committee considers the general level of salary increase across the Group and in the relevant external market. Actual increases for the executive directors in their current roles will generally not exceed the average percentage increase for employees as a whole, taking account of the level of movement within the relevant UK/US comparator group. As a maximum, in exceptional circumstances (such as a material increase in job size or complexity while performing the same role, or arecently appointed executive director where the salary is positioned low against the market), the increase will not exceed 10% in any single year for executive directors performing the same role. If an individual’s role changes then a salary increase above 10% may be awarded in any single year to position their salary appropriately in accordance with the base salary principles described under ‘Operation’ above. As a matter of policy, no new executive director role will have a salary greater than the Chief Executive at that time. Performance metrics used, weighting and time period applicable None. ### Annual incentive Purpose and link to strategy Drive and reward annual performance of individuals and teams on both financial and non-financial metrics, including leadership behaviours in order to deliver sustainable growth in shareholder value. Compulsory deferral into shares increases alignment with shareholder interests. Operation The annual incentive is driven off in-year financial performance, corporate responsibility and other non-financial objectives measured atthe Group and individual level. One-third of the total net annual incentive amount is subject to compulsory deferral for three years in BAE Systems shares without anymatching. A malus mechanism may be applied to any bonus, and a clawback mechanism may be applied to the deferred bonus shares until up totheend of the three-year deferral period, where: – the Company is entitled to terminate employment for cause or the participant has engaged in misconduct (including breach of policy) which gives rise to other disciplinary sanction; – the results of the Company and/or relevant business or businesses for any period have been restated or subsequently appear materially inaccurate or misleading; and/or – any Group company or business unit has made a material financial loss. Cash dividends are payable to the participants on the shares during this three-year deferral period. BAE Systems plc Annual Report 2021 171 Governance ## Directors’ remuneration policy continued ## Executive directors’ policy table continued ### Annual incentive continued Maximum opportunity Chief Executive: 225% of salary Chief Executive Officer of BAESystems, Inc.: 225% of salary Chief Operating Officer: 200% of salary Group Finance Director: 160% of salary Where a new executive director role is established, the maximum opportunity will not exceed that of the Chief Operating Officer role asset out above. The payout for maximum performance is double the payout for on-target performance where maximum performance is shown as therespective maximum percentages above. The payout for achieving a threshold performance is 40% of the payout for on-target performance (i.e. 20% of maximum), with no payout for achieving less than this. Payout for performance between targets is calculated ona straight-line basis. Performance metrics used, weighting and time period applicable Performance is assessed on an annual basis, using a combination of the Group’s main performance indicators for the year and other objectives designed to support the Group’s strategy. Metrics, which will include financial and non-financial metrics as well as the achievement of personal objectives, will be determined and weighted each year according to business priorities. 75–80% will relate tofinancial metrics aligned with long-term earnings and cash targets. The non-financial element will be based on a combination ofpersonal performance objectives that provide a clear line of sight to our strategic objectives, safety measures, anddiversity and inclusiontargets*. Metrics and weightings to be determined annually. Proposed metrics and weightings applicable in 2020: Group EPS – 45% Group cash – 22.5% Order intake – 7.5% Safety, and diversity and inclusion – 5%** Key strategic objectives designed to support the Group’s strategy – 20% *See notes 4 and 5 on page 177 regarding the selection and weighting of performance metrics. **Beginning in 2021, safety, and diversity and inclusion will be an underpin to the annual plan. At that point, Key strategic objectives will increase from 20% to 25% of the total weighting. All bonus payments are at the discretion of the Committee, which will be based on an assessment of the individual’s personal contribution to business performance over the relevant year and leadership behaviours demonstrated in making that contribution, relative to others. 172 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ### Long-Term Incentives (LTI) Operation Long-term incentives will operate under the BAE Systems Long-Term Incentive Plan approved by shareholders at the 2014 AGM. The size of awards granted is based on a percentage of salary, which is divided by the share price to determine the number of shares subject to the award. Dividend equivalents in respect of vested shares may be paid at the time of vesting (or exercise, in the case of options) and are not taken into account when determining individual limits. A malus and clawback mechanism may be applied, until two years after vesting, or if sooner, the fifth anniversary of grant, or the occurrence of certain corporate events, to all awards granted on or after 25 March 2015 where: – the Company is entitled to terminate employment for cause or the participant has engaged in misconduct (including breach of policy) which gives rise to other disciplinary sanction; – the results of the Company and/or relevant business or businesses for any period have been restated or subsequently appear materially inaccurate or misleading; – any Group company or business unit has made a material financial loss; and/or – the measurement of any performance condition does not reflect the actual performance of the Company over the performance period. The Committee will establish the targets for each measure at the start of each performance period based on Group projections and market expectations for the business. The performance conditions for previous awards are described in the Annual remuneration report. Awards and performance conditions can be adjusted to take account of variations of share capital and other transactions or events. On a change of control or similar transaction, awards generally will vest to the extent performance conditions are then satisfied (ifapplicable) and then be pro-rated to reflect the acceleration of vesting unless the Committee decides otherwise. Alternatively, awards may be exchanged for equivalent awards over shares in the acquiring company. The share plan rules may be amended from time-to-time by the Committee in certain circumstances including minor changes for administrative, tax or other regulatory purposes. Subject to this Policy, performance conditions of awards already granted may be amended in accordance with their terms or if anything happens which causes the Committee reasonably to consider it appropriate to do so. Performance metrics used, weighting and time period applicable See notes 4 and 5 on page 177 regarding the selection and weighting of performance metrics. Maximum opportunity Over the lifetime of this Policy, the Committee will have discretion to vary the weighting of different types of awards within the frameworkset out below, but the overall LTI Expected Value (EV) will remain the same (assuming the LTI EV is calculated as 50% offacevalue for Performance Shares and 100% of face value for Restricted Shares): – UK executive directors’ awards will consist of Performance Shares only. – US executive directors’ awards will consist of a mix of Performance Shares and Restricted Shares (with Restricted Shares comprising nomore than 50% of overall LTI EV), ensuring competitiveness of overall LTI opportunity in line with US market practice. Performance metrics used, weighting and time period applicable See below in relation to Performance Shares. In addition to the primary performance tests set out below, the Committee confirms and recognises its obligation to judge the overall reasonableness of the rewards received relative to the overall business actions and results achieved. When determining the final performance condition outcome under Performance Share awards granted since the 2017 AGM, the Committee will have discretion overthe number of awards vesting in light of other important factors in the business (reasonableness discretion). The discretion may result in vesting of awards going upwards (subject to maximum 100% vesting of awards) as well as downwards. Any factors will be properly considered as they arise and any discretion to the calculated results will be applied in a highly disciplined manner and the rationale and impact will be reported transparently. See notes 4 and 5 on page 177. BAE Systems plc Annual Report 2021 173 Governance # Directors' remuneration policy continued ## Executive directors' policy table continued ### Long-Term Incentives – Performance Shares #### Purpose and link to strategy Direct financial measures of long-term earnings and cash generation that drive our financial ambitions for the Company, and external strategic measures including relative TSR performance, aligned to the interests of shareholders. #### Operation For UK executive directors, awards, typically in the form of nil-cost options, will vest subject to performance and service conditions on the fifth anniversary of grant. These will be exercisable between the fifth and tenth anniversary of grant or such shorter period as may be specified by the Committee. For US executive directors, awards are delivered as conditional share awards (RSUs). To maintain the competitiveness of the LTI offering in the US, awards will vest automatically in three equal tranches on the third, fourth and fifth anniversary of grant, subject to performance conditions. #### Policy maximum opportunity Award levels applicable to UK executive directors for normal annual grants (assuming award of Performance Shares only) are as follows: Chief Executive: 370% of salary Chief Operating Officer: 350% of salary Group Finance Director: 335% of salary Award levels applicable to US executive directors for normal annual grants (assuming the current LTI EV weightings in Performance Shares and Restricted Shares) are as follows: Chief Executive Officer of BAE Systems, Inc.: 298% of salary Note the percentages above could be exceeded if the LTI EV weightings were to be varied (see above). Where a new executive director role is established, the maximum opportunity will not exceed that of the Chief Operating Officer role as set out above. Range of values: the size of awards granted is based on a percentage of salary, which is divided by the share price to determine the number of shares subject to the award. The maximum value that an executive director can receive is based on this number of shares subject to the award multiplied by maximum vesting of 100%, multiplied by any share price growth between grant date and vesting date and including any dividend equivalents received in respect of vested shares. The minimum value that an executive director can receive is zero on the basis of nil vesting, for example either due to the performance conditions not being achieved, or as a result of the application of reasonableness discretion that determines nil vesting of the awards. #### Performance metrics used, weighting and time period applicable Metrics and weightings will be as follows (subject to the Committee's ability to adjust as set out below): - 25% of award based on TSR relative to one or more appropriate comparator groups over the three-year performance period as selected by the Committee at the time of grant. - Vesting of each comparator group is determined as: nil vesting if TSR ranked below median in the comparator group; 25% vesting if TSR ranked at the median; 100% vesting if TSR ranked in the upper quintile; pro-rata vesting for performance between median and upper quintile. - If more than one comparator group is used, vesting of the TSR portion of the award will be determined by the average of the vesting outcomes from each comparator group. - Award subject to a secondary financial measure as set out on pages 162 and 163. - 25% of award based on average annual EPS growth over the three financial years starting with that in which the award is granted, with 25% vesting for threshold performance, 50% vesting for target performance and 100% vesting for stretch performance. Pro-rata vesting for intermediate performance. - 25% of award based on three-year cumulative cash generation metric over the three financial years starting with that in which the award is granted, with 25% vesting for threshold performance, 50% vesting for target performance and 100% vesting for stretch performance. Pro-rata vesting for intermediate performance. - 25% of award based on specific and quantifiable strategic goals, reflecting strategic progress, that are directly aligned to our company strategic goals of driving operational excellence, continuously improving competitiveness and efficiency and advancing and further leveraging our technology. The metrics and weightings applicable in 2020 are as follows: - 50% of award based on TSR relative to the following two comparator groups over the three-year performance period: - An appropriately sized group of international defence companies selected by the Committee at the time of grant. - All companies in the FTSE 100 index. - 50% of award based on average annual EPS growth over the three financial years starting with that in which the award is granted, with threshold performance requirement as average annual EPS growth of 3%, target performance requirement as average annual EPS growth of 5% and stretch performance requirement as average annual EPS growth of 7%. Note that awards granted to executive directors are subject to application of reasonableness discretion in light of other important factors in the business as described earlier. The Committee can adjust the weighting of the performance conditions, and, if considered appropriate, may introduce an alternate performance condition aligned to the Company's strategy, or remove a performance condition set out above, but with a minimum of 20% weighting always applying to the Total Shareholder Return (TSR) metric. See notes 4 and 5 on page 177. 174 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ### Long-Term Incentives – Restricted Shares Purpose and link to strategy Provide long-term reward through time-vesting awards principally in the Company’s US market. Operation The shares are subject only to the condition that the participant remains employed by the Group on the vesting date (three years after theaward date). Directors are required to retain their shares for a further two-year period, except for any shares that need to be sold tocover tax liabilities due in respect of the shares. During that time, they are subject to clawback as described above. However, this holding requirement will not apply following a change of control. These awards are not subject to a performance condition as they aredesigned to address competitive market practice and retention issues principally in the US. Non-US-based executive directors are noteligible. Policy maximum opportunity Award levels applicable to US executive directors for normal annual grants (assuming the current LTI EV weightings in Performance Sharesand Restricted Shares) are as follows: Chief Executive Officer of BAE Systems, Inc.: 150% of salary Range of values: the size of awards granted is based on a percentage of salary, which is divided by the share price to determine the number of shares subject to the award. The value that a US executive director will receive is based on this number of shares subject totheaward multiplied by the change in share price between grant date and vesting date and including any dividend equivalents receivedin respect of vested shares. Performance metrics used, weighting and time period applicable None. See notes 4 and 5 on page 177. ### Benefits Purpose and link to strategy Provide employment benefits which ensure that the overall package is market competitive when these elements are taken into account. Operation Benefits include provision of a company car (or cash equivalent), life assurance and ill-health benefit cover which are provided directly orthrough membership of the Company’s pension schemes. The main benefits in the UK include a car allowance (currently £16,000 perannum), private use of a chauffeur-driven car and annual medical screening, plus life assurance and ill-health benefit cover provided through membership of the Company’s pension schemes. Opportunity for UK executive directors to participate in the Share Incentive Plan, a tax approved all-employee plan. In the US, benefits include parking and private use of a chauffeur-driven car and company aircraft, medical and dental benefits, andinsured life and disability benefits. Additional benefits, such as relocation assistance, may also be provided in certain circumstances if considered reasonable and appropriate by the Committee. Relocation assistance comprises reimbursement for direct items of expenditure, such as legal, estateagency, removals and temporary accommodation. Directors’ and Officers’ insurance cover is also provided for all executive directors. Maximum opportunity Benefits are set at a level which the Committee considers to be appropriate against comparable roles in companies of similar size in the relevant market. Benefits are as reported and itemised within the single total figure shown as part of the Annual remuneration report on page 155. The maximum cost of such benefits will reflect the associated market-competitive cost of provision. Relocation assistance is based on actual costs incurred which are linked to the size and value of the property, plus a maximum relocation allowance of £2,500. Participation limits for the Share Incentive Plan are those set by the UK tax authorities from time-to-time. Performance metrics used, weighting and time period applicable None. BAE Systems plc Annual Report 2021 175 Governance # Directors' remuneration policy continued ## Executive directors' policy table continued ### Pension #### Purpose and link to strategy Provide competitive post-retirement benefits or cash allowance equivalent. #### Operation The current Chief Executive as at 19 February 2020 is a member of the defined contribution section of the BAE Systems Executive Pension Scheme (EPS DCRP). In line with our policy at the time of his appointment, Company contributions are 19% of salary and UK member contributions are 6% of salary. In the UK, the Company has a number of defined benefit (DB) plans which are closed to new entrants, with new hires being offered membership of a defined contribution (DC) pension scheme. Employer contribution rates for the different schemes range from 8% to approximately 50% salary. The level of employer contribution based on a weighted average of UK active members across all schemes is approximately 17%. From 2020, the annual value of the current Chief Executive's contributions will be fixed at the monetary value of his 2020 employer pension contribution of £186,200 per annum. Assuming broad average salary increases in the region of 2.5% per annum, fixing the monetary value at this level will align the employer contribution rate applicable to the Chief Executive to the weighted average employer rate of 17% over a period of around four years. The Committee will continue to monitor the matter of pension provision as part of a broader mix of total remuneration. For any new externally-appointed UK executive directors, or internally-appointed UK executive directors, membership of the BAE Systems EPS DCRP is offered as the default pension vehicle. Company contributions are set at 8% of base salary for those members contributing 6% of salary, in line with that available to the wider UK workforce participating in the Company's UK defined contribution arrangements. In certain circumstances, individuals may elect instead to receive some or all of their Company contributions as a cash allowance. Consistent with the above, the Group Finance Director designates as at 19 February 2020$^{1}$ is a member of the BAE Systems EPS DCRP with Company contributions of 8% salary. Where the Annual Allowance (AA) is breached, as is the case with the Chief Executive and the Group Finance Director designate, each individual will pay member contributions up to the AA limit and the Company contributions will be paid as a salary supplement. Where UK executive directors' pension entitlement or accrual is restricted to the Lifetime Allowance (LTA) and/or the AA, the Company may offer a salary supplement to offset the impact of these restrictions. The current Group Finance Director as at 19 February 2020$^{1}$ is due to retire on 31 March 2020, before this Policy takes legal effect. He is a member of the BAE Systems Executive Pension Scheme and member of an underlying employee pension plan, which together provide a target benefit for executive directors payable at normal retirement age (62) of 1/30th of final pensionable earnings (FPE) for each year of service up to a maximum of two-thirds of FPE. His contributions are currently 8% of salary in line with other members in the equivalent part of the scheme. This part of the scheme is a legacy arrangement and has not been open to new joiners for many years. Further detail is provided on page 125 as part of the Annual remuneration report in the 2019 Annual Report. The current Chief Executive Officer of BAE Systems, Inc. as at 19 February 2020$^{2}$ is due to step down from the Board on 31 March 2020, before this Policy takes legal effect. He participates in a Section 401(k) defined contribution arrangement in which the Company matches his contributions up to a maximum of 6% of salary, subject to US regulatory limits. The same provisions and features of the plan apply to the majority of participating active employees. Any new US executive directors, whether externally-appointed or internally-appointed, would be offered participation in the US Section 401(k) defined contribution plan. The same provisions and features of the plan currently apply to the majority of participating active employees, with the Company matching contributions up to a maximum of 6% of salary, subject to US regulatory limits. For any internally-appointed US executive directors who are also participants in the BAE Systems Employees' Retirement Plan (ERP, a qualified pension plan) and the BAE Systems 2007 Benefit Restoration Plan (BRP 2007, a non-qualified pension plan), these plans provide for either a lump sum or annuitised payments based on the accrued values at the time of separation from employment. Annual additional accruals are currently limited to $1,000 in the ERP and $500 in the BRP 2007. The current President and Chief Operating Officer of BAE Systems, Inc. as at 19 February 2020 participates in a Section 401(k) defined contribution arrangement as described above, and is also a participant in the ERP and BRP 2007, as described above. #### Maximum opportunity The BAE Systems EPS DCRP provides a maximum Company contribution of 19% (in addition to employee contribution of 6%) of base salary in respect of the current Chief Executive. From 2020, the maximum Company contribution has been fixed at £186,200 per annum for the current Chief Executive. The maximum Company contribution for any new externally-appointed UK executive directors, or internally-appointed UK executive directors is 8% (in addition to employee contribution of 6%) of base salary. Under the existing executive defined benefit scheme, a maximum of two-thirds of FPE is accrued at 1/30th for each year of service. Where UK executive directors' pension entitlement or accrual is restricted to the LTA and/or the AA, the Company may offer a salary supplement to offset the impact of these restrictions. With limited exceptions, the US Section 401(k) defined contribution plan currently provides company matching contributions up to a maximum of 6% of base salary, subject to US statutory limits. For US executive directors who are eligible to participate in the ERP and the BRP 2007, these plans provide a cash sum or annuity at retirement equal to the present value of all prior annual accruals and credits from the initial year of service eligibility through to the present. Since the start of 2013, annual additional accruals have been set at $1,000 from the ERP and $500 from the BRP 2007. 1. Peter Lynas, Group Finance Director as at 19 February 2020, is to retire on 31 March 2020. Brad Greve, Group Finance Director designates as at 19 February 2020, is to be appointed as Group Finance Director and a director of BAE Systems plc with effect from 1 April 2020. 2. Jerry DeMuro, Chief Executive Officer of BAE Systems, Inc. as at 19 February 2020, is to step down from the Board on 31 March 2020. Tom Arseneault, President and Chief Operating Officer of BAE Systems, Inc. as at 19 February 2020, will succeed Jerry DeMuro as President and Chief Executive Officer of BAE Systems, Inc. and director of BAE Systems plc with effect from 1 April 2020. 176 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## Notes to the executive directors' policy table ### Remuneration policy for other employees 1. The Company's approach to annual salary reviews is consistent across the Group, with consideration given to the scope of the role, level of experience, performance and market data for similar roles in other companies. 2. All leaders may participate in an annual bonus scheme with similar metrics to those used for the executive directors. Other employees may participate in performance-based incentive plans which vary by organisational level and with relevant metrics for the particular area of the business. 3. LTI grants may be made to the most senior managers in the business (approximately 400 individuals globally). The nature of the awards depends on the individual's location, roles and responsibilities, in particular: - performance conditions and targets for Performance Share grants made to UK and Rest of World participants are made in line with those applying to executive directors; - for US participants below Executive Committee level, performance conditions and targets for Performance Share grants are tailored to reflect the strategic context and focus of the US business; - Performance Shares applicable to participants below executive director level vest on the third anniversary subject to performance conditions and are exercisable (or released in the case of US participants) in equal tranches on the third, fourth and fifth anniversary of grant; - Share Options are granted to participants below executive director level; there are no performance conditions attached and they vest and are exercisable after three years; - Restricted Share grants are currently made to the most senior managers in the US businesses reflecting competitive market practice and vest after three years. Targeted awards may also be made with Remuneration Committee approval to selected individuals outside the US below executive director level; - one quarter of the total annual incentive amount is subject to compulsory deferral for three years in BAE Systems shares without any matching for UK and Rest of World participants that receive LTI grants; and - Minimum Shareholding Requirements are in place for all of the approximately 400 individuals globally that receive LTI grants. ### Performance measures and targets 4. The Committee selected the performance conditions because these are central to the Company's overall strategy and are the key metrics used by the executive directors to oversee the operation of the business. Any non-financial performance targets are determined by the Committee in consultation with the Corporate Responsibility Committee as appropriate. 5. The performance conditions and targets are determined annually by the Committee (within the parameters set out above), taking account of the Group's strategic objectives, the internal business plan and budgets, as well as external market expectations and general economic conditions. The Committee is of the view that the performance targets for the annual bonus are commercially sensitive and that it would be detrimental to the interests of the Company to disclose them before the start of the financial year. The targets will be disclosed retrospectively after the end of the relevant financial year. ### Minimum Shareholding Requirement (MSR) 6. The Committee has agreed a policy whereby the executive directors are required to establish and maintain a minimum personal shareholding equal to a set percentage of base salary as set out in the table below. Executive directors are required to achieve their Initial Value as quickly as possible, and achieve their Subsequent Value within a five-year time period. Where an executive director has not achieved their MSR, the consequence is a restriction on the number of shares that can be sold on exercise or release, until their MSR Subsequent Value is met. Where an executive director has met less than the Initial Value (50% of their MSR), they must retain 50% of the net value (i.e. the value after deduction of exercise/sale costs and tax) of shares acquired through the various share schemes, if they have met the Initial Value but not the Subsequent Value (i.e. between 50% and 100% of their MSR), they must retain 25% of the net value. In the event that the executive director has not met the Subsequent Value at the end of the five-year period, the Committee will set out their proposed remedial actions at that time. The Committee has discretion to increase the Initial Value and/or Subsequent Value (see below). Shares owned beneficially by the director and his/her spouse count towards the MSR. With effect from the 2020 AGM, where an executive director leaves employment for any reason, a post-cessation shareholding policy will apply. For UK executive directors, the policy is based on the full MSR continuing to apply for a period of two years. For US executive directors, the policy is based on 300% MSR applying for a period of one year. Executive directors will be required to sign a contract on leaving employment to ensure compliance with this policy. Any case of non-compliance would be dealt with by the Committee. The following table sets out MSR Initial Value and Subsequent Value: | | Initial Value | Subsequent Value | | --- | --- | --- | | Chief Executive | 150% | 300% | | Chief Operating Officer | 100% | 200% | | Group Finance Director | 100% | 200% | | Chief Executive Officer of BAE Systems, Inc. | 212.5% | 425% | BAE Systems plc Annual Report 2021 177 Governance ## Directors’ remuneration policy continued ## Executive directors’ policy table continued Illustration of application of remuneration policy The charts below show the value of the package each of the executive directors would receive in the first year of operation of the Policy. Noillustration of Remuneration Policy is shown for Peter Lynas (current Group Finance Director) and Jerry DeMuro (current Chief Executive Officerof BAE Systems, Inc.) who are stepping down from the Board in advance of the 2020 AGM at which the proposed Remuneration Policy is being put to shareholders, as set out in the executive director changes below. The values are based on 2020 levels for base salaries, benefits and pension and assume that the office-holders at the date of this Policy coming into effect are employed throughout the first year of operation of the Policy. Annual and long-term incentives are based on awardsapplying in 2021. The charts assume the following scenarios: – minimum fixed pay includes salary, benefits and pension as provided in the single figure table on page 118 of the 2019 Annual Report andRestricted Shares award for the US executive director awarded at 150% salary (excluding share price growth); – on-target pay assumes on-target performance is met in respect of variable elements (annual and long-term incentives); – maximum pay assumes variable elements pay out in full; and – 50% share price appreciation assumes all variable elements pay out in full and there is 50% gain in share price over the relevant vestingperiod in respect of Performance Shares and Restricted Shares awards received, and excludes dividends. The minimum, on-target and maximum scenarios below exclude any share price appreciation and dividends. | Chief Executive | | | | | | | President and Chief Executive Officer | | | | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | (£’000) | | | | | | | of BAE Systems, Inc. ($’000) | | | | | | | | 0% share price | | | | | | | 0% share price | | | | | | | | | 13% 25% 62% | | | | | 8,832 | | 33% 22% 45% | | | | | 9,850 | | | 17% | 31% | | 52% | | 7,019 | | 33% | 29% | | 38% | | 7,655 | | | 33% | 30% | 37% | | | 3,650 | | 54% | 23% | 23% | | | 4,727 | | | 100% | | | | | 1,118 | | 100% | | | | | 2,529 | | | 0 2,000 4,000 | | | | 6,000 8,000 10,000 | | | 0 2,000 4,000 | | | | 6,000 8,000 10,000 | | | | | | | Value of package (£’000) | | | | | Value of package ($’000) | | | | | ### Group Finance Director Executive directorship changes (£’000) As announced on 8 August 2019, Peter Lynas is to retire as Group Finance Director on 31 March 2020 and Brad Greve, Group Finance 0% share price 14% 21% 65% 4,720 Director designate, is to be appointed as Group Finance Director 18% 26% 56% 3,699 andadirector of BAE Systems plc on 1 April 2020. As announced on 17 December 2019, Jerry DeMuro is to retire on 31 December 35% 25% 40% 1,933 2020, stepping down from his role as executive director on 100% 679 31 March 2020. Tom Arseneault will succeed him as President andChief Executive Officer of BAE Systems, Inc. and a director 0 1,000 2,000 3,000 4,000 5,000 ofBAE Systems plc on1April 2020. Value of package (£’000) Fixed elements of remuneration Annual bonus Performance Shares | 5 5 5 | | --- | | appreciation appreciation appreciation | | Maximum Maximum Maximum | | On-target On-target On-target | | Minimum Minimum Minimum | 178 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Non-executive directors’ (NEDs) policy table ### Fees Purpose and link to strategy To attract NEDs who have a broad range of experience and skills to provide independent judgement on issues of strategy, performance, resources and standards of conduct. Operation NEDs’ fees are set by the Non-Executive Directors’ Fees Committee. NEDs receive a basic fee with an additional fee for those who are chairmen of committees and/or undertake the role of Senior Independent Director. NEDs also receive a travel allowance per meeting on each occasion that a scheduled Board meeting necessitates air travel of more thanfivehours (one way) to the meeting location, subject to a maximum of six travel allowances per year. Fees are typically reviewed annually, taking into account time commitment requirements and responsibility of the individual roles, andafterreviewing practice in other comparable companies. The Chairman’s fees are set by the Committee on a three-year basis and not normally subject to review during that period. Maximum opportunity Actual fee levels are disclosed in the Annual remuneration report for the relevant financial year. The current Chairman’s fee has been set at £700,000 from 1 February 2020 and is fixed at this level for three years. The aggregate cost of fees and benefits paid to NEDs (including the Chairman) will not exceed an annual limit of £2.5m and the cost offees and benefits paid to the Chairman will not exceed £1.25m annually. Performance metrics used, weighting and time period applicable None. ### Benefits Purpose and link to strategy Reimbursement for reasonable and documented expenses incurred in the performance of duties. Operation NEDs are not eligible to participate in any pension benefits provided by the Company, nor do they participate in any performance- relatedincentives. The Chairman is provided with a chauffeur-driven car. This may be used for non-Company business, but the cost of the benefit of such usage shall be paid by the Chairman. The Company reimburses travel and subsistence costs (including payment of the associated tax cost) incurred by the director or his/her spouse whilst undertaking duties on behalf of the Company that may be assessed as a benefit for tax purposes. Directors’ and Officers’ insurance cover is also provided for all directors. Maximum opportunity See the aggregate limit under ‘Fees’ above. Prior commitments For the duration of this Policy, the Company will honour any commitments made in respect of executive director and non-executive director remuneration and benefits before the date on which either: (i) the Directors’ remuneration policy becomes effective; or (ii) an individual becomes a director, even where such commitments are not consistent with the policy set out in this report or prevailing at the time any suchcommitment is fulfilled. This includes (without limitation) all existing share awards as detailed on page 102 of the 2013 Annual Report 2012 under the LTIP SO and ExSOP that remain outstanding. Any commitments entered into (such as grants of share awards) consistent with apreviously approved Directors’ remuneration policy that was applicable at the relevant time. BAE Systems plc Annual Report 2021 179 Governance ## Directors’ remuneration policy continued ## Recruitment Approach to recruitment remuneration The recruitment policy provides an appropriate framework within which to attract individuals of the required calibre to lead a company ofBAE Systems’ size, scale and complexity. The Committee determines the remuneration package for any appointment to an executive director position, either from within or outside BAE Systems. Operation The Committee will take into consideration all relevant factors, including overall total remuneration, the type of remuneration being offered and the jurisdiction from which the candidate was recruited, and will operate in order to ensure that arrangements are in the best interests of the Company and its shareholders without paying more than is necessary to secure the individual of the required calibre. The fees and benefits applicable to the appointment of any new non-executive directors will be in accordance with the policy tableonpage 179. Opportunity The Committee seeks to align the remuneration package offered with the policy set out in the executive directors’ policy table above recognising that participation under the policy above varies by geography. – For UK executive director appointments, participation in annual incentive plans will not exceed 225% of annual salary and long-term awards under this Policy will not exceed 550% of annual salary. – For US executive director appointments, participation in annual incentive plans will not exceed 225% of annual salary and long-term awards under this Policy will not exceed 500% of annual salary. The Committee may make awards on hiring an external candidate to ‘buy-out’ existing equity or, in exceptional circumstances, other elements of remuneration forfeited on leaving the previous employer. In doing so, the Committee will take account of relevant factors including any performance conditions attached to these awards, the form in which they were granted (e.g. cash or shares) and the time overwhich they would have vested. Buy-out awards would be capped to be no higher, on recruitment, than the fair value of those forfeited. Full details will be disclosed in the next Annual remuneration report following recruitment which will include details of the need to grant abuy-out award. Fixed elements (base salary, retirement and other benefits) The salary level will be set in accordance with the principles for setting base salary described in the executive directors’ policy table above. The executive director shall be eligible to participate in applicable BAE Systems’ employee benefit plans, including coverage under applicable executive and employee pension and benefit programmes in accordance with the terms and conditions of such plans, as may be amended by the Company in its sole discretion from time-to-time. In the case of promotion of an existing Group employee to an executive directorship on the Board, commitments made before such promotion will continue to be honoured whether or not they are consistent with the remainder of this Policy. In the case of pensions however, any previous arrangement will cease and the individual will be offered provision in line with the agreed policy on page 176. Annual Incentive Plan The appointed executive director will be eligible to earn a discretionary annual bonus in accordance with the annual incentive framework as described in the executive directors’ policy table above. The level of opportunity will be consistent with the policy disclosed in the executive directors’ policy table in this report and subject tothemaximums referred to therein and under ‘Opportunity’ above. Long-Term Incentive Plan The executive director will be eligible for equity awards in such amounts as the Committee may determine in its sole discretion, subject tothis Policy and the rules of the Long-Term Incentive Plan. The level of opportunity will be subject to the maximums referred to under ‘Opportunity’ above. Other For internal and external appointments, the Committee may agree that the Company will meet certain relocation expenses in accordance with the provisions described under the Benefits section of the policy table on page 175. 180 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## Service contracts and letters of appointment ### Executive directors #### Operation In accordance with long-established policy, all executive directors have rolling service agreements which may be terminated in accordance with the terms of these agreements. #### Dates of appointment for executive directors | Name | Date of appointment | Notice period | | --- | --- | --- | | Charles Woodburn^{1} | 1 July 2017 | 12 months either party | | Peter Lynas^{2} | 1 April 2011 | 12 months either party | | Jerry DeMuro^{3} | 1 February 2014 | 90 days either party | | Brad Greve^{4} | 1 April 2020 | 12 months either party | | Tom Arseneault^{5} | 1 April 2020 | 60 days either party | 1. Appointed to the Board as Chief Operating Officer on 9 May 2016; appointed as Chief Executive with effect from 1 July 2017. 2. Retired from the Board and the Company on 31 March 2020 as announced on 8 August 2019. 3. Retired from the Board and as Chief Executive Officer of BAE Systems, Inc. on 31 March 2020 as announced on 17 December 2019. Jerry DeMuro's contract of employment automatically renewed for one-year periods from 31 December each year, unless one party gave at least 90 days' notice of non-renewal. 4. Appointed as Group Finance Director designate with effect from 1 September 2019 and joined the Board on 1 April 2020 as announced on 8 August 2019. 5. President and Chief Operating Officer of BAE Systems, Inc., he joined the Board and became Chief Executive Officer of BAE Systems, Inc. on 1 April 2020 as announced on 17 December 2019. His contract of employment automatically renews for one-year periods from 31 December each year, unless one party gives the other at least 60 days' notice. #### Notice period The Committee's policy is that the service contracts of executive directors will not exceed 12 months. In exceptional circumstances, in relation to newly recruiting an executive director operating in a US environment, the notice period may be extended to a maximum of 24 months and structured such that it reduces to no more than 12 months by no later than the end of the first complete year of service. #### Change of control No executive director has provisions in his service contract that relate to a change of control of the Company. ### Chairman The Chairman's appointment is documented in a letter of appointment and he is required to devote no fewer than two days a week to his duties as Chairman. His appointment as Chairman (which commenced on 1 February 2014) will automatically terminate if he ceases to be a director of the Company. The Chairman's appointment was reviewed by the Nominations Committee prior to the end of his second three-year term and has been extended until the conclusion of the Company's Annual General Meeting in May 2023, unless it is terminated earlier in accordance with the Company's Articles of Association or by the Company or the Chairman giving not less than six months' notice. ### Non-executive directors The non-executive directors do not have service contracts but do have letters of appointment detailing the basis of their appointment. The dates of their original appointment are shown below: | Name | Date of appointment | Expiry of current term | | --- | --- | --- | | Revathi Advaithi^{1} | 01.01.2018 | 25.06.2020 | | Nick Anderson^{2} | 01.11.2020 | 31.10.2023 | | Crystal Ashby^{3} | 01.09.2021 | 31.08.2024 | | Dame Elizabeth Corley | 01.02.2016 | 31.01.2025 | | Dame Carolyn Fairbairn^{4} | 01.03.2021 | 29.02.2024 | | Jane Griffiths^{5} | 01.04.2020 | 31.03.2023 | | Chris Grigg | 01.07.2013 | 04.05.2023 | | Ewan Kirk^{6} | 01.06.2021 | 31.05.2024 | | Stephen Pearce | 01.06.2019 | 31.05.2025 | | Nicole Piasecki | 01.06.2019 | 31.05.2025 | | Paula Rosput Reynolds^{7} | 01.04.2011 | 31.12.2020 | | Nick Rose^{7} | 08.02.2010 | 31.12.2020 | | Ian Tyler | 08.05.2013 | 05.05.2022 | 1. Retired from the Board on 25 June 2020. 2. Appointed to the Board on 1 November 2020. 3. Appointed to the Board on 1 September 2021. 4. Appointed to the Board on 1 March 2021. 5. Appointed to the Board on 1 April 2020. 6. Appointed to the Board on 1 June 2021. 7. Retired from the Board on 31 December 2020. The Company announced on 20 October 2021 that Ian Tyler would retire from the Board at the conclusion of the 2022 Annual General Meeting to be held on 5 May 2022. BAE Systems plc Annual Report 2021 181 Governance ## Directors’ remuneration policy continued ## Service contracts and letters of appointment continued The non-executive directors are normally appointed for an initial three-year term that, subject to review, may be extended subsequently forfurther such terms. Any third term of three years is subject to rigorous review, taking into account the need progressively to refresh theBoard. Non-executive directors do not have periods of notice. In accordance with the UK Corporate Governance Code, all directors are subject to annual election or re-election at the Company’s AGM. Policy on payment for loss of office Operation The policy on payment for loss of office provides a clear set of principles that govern the payments that will be made for loss of office, and take account of the need to ensure a smooth transition for leadership roles during times of change. The policy that will apply for a specific executive director’s payments for loss of office will be the policy that was in place at the point when the payments for loss of office were agreed for the executive director in question. Any termination payment made in connection with the departure of an executive director will be subject to approval by the Committee, having regard to the terms of the service contract or other legal obligations and the specific circumstances surrounding the termination, including whether the scenario aligns to an example under the approved leaver criteria, performance, service and health or other circumstances that may be relevant. In addition to payments described below, the Committee may pay such amounts as are necessary to settle or compromise any claim or byway of damages, where the Committee views it as in the best interests of the Company to do so. In the event of the termination of anexecutive director’s contract, it is the Committee’s policy to seek to limit any payment to not more than one year’s base salary. Where appropriate the Company may also meet a director’s reasonable legal expenses in connection with their termination of their appointment. Notice and pay in lieu of notice For executive directors, employment contracts will generally be on terms that allow them to be terminated on up to 12 months’ notice from either party or by way of payment of base salary in lieu of notice, at the Company’s discretion. Neither notice nor a payment in lieu ofnotice will be given in the event of gross misconduct. For US-based executive directors, employment contracts are typically for one-year periods and renew automatically unless one party givesat least 60 days’ notice of non-renewal. If the employment is (a) terminated by the Company (other than for cause as defined in thecontract) or (b) the executive director resigns for a ‘Good Reason’ (as defined in the contract), the executive director is entitled to atermination payment equal to (i) one year’s base salary and (ii) a bonus payable at target level pro-rated for service for the relevant financial year. Theywill also be entitled to a continuation of medical benefits for 18 months (or a cash payment in lieu). In all cases, the Committee seeks to include provisions in directors’ employment contracts to allow the Company to pay any notice orseverance payments on a phased basis and apply mitigation if the executive director secures alternative employment, to the extent thatthis is reasonably practicable taking into account local labour law, tax and other relevant considerations. Other than notice payments, the Company has no obligation to make any termination payments when the Chairman’s appointment terminates. Non-executive directors do not have periods of notice and the Company has no obligation to make any termination payments when their appointment terminates, other than to pay fees in accordance with the appointment letters. Retirement benefits As governed by the rules of the relevant pension plan. No enhancement for leavers will be made. Annual Incentive Plan Where an executive director’s employment is terminated after the end of a performance year but before the payment is made, theexecutive director will remain eligible for an annual incentive award for that performance year subject to an assessment based on performance achieved over the period. No award will be made in the event of gross misconduct. The Committee may, as set out below, exercise its discretion to allow an annual incentive payment for the year of cessation as part ofthetermination package for executive directors. Where it does so, the exercise of the discretion and reason why the Committee considered such action appropriate will be disclosed. Where an executive director leaves during the relevant performance year by reason of death, ill-health, disability, retirement, a transfer ofbusiness or redundancy, the Committee may use its discretion to determine that an executive director will remain entitled to receive abonus (subject to an assessment based on performance over the performance year and pro-rated for time) in respect of the financial yearin which the individual ceased employment. In all cases, one-third of the bonus will be subject to compulsory deferral as set out previously, unless the Committee decides otherwise. The Committee’s policy is not to award an annual incentive for any portion of the notice period not served. The treatment set out above does not apply to the Chief Executive Officer of BAE Systems, Inc. and the applicable treatment is provided inthe section on notice and pay in lieu of notice. 182 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report Long-Term Incentive Plans The treatment of outstanding share awards in the event that an executive director leaves is governed by the relevant share planrules. Under the Long-Term Incentive Plan, where an executive director leaves the Group by reason of ill-health, injury, disability, retirement with the agreement of the Company, sale of a business or employing company, redundancy or leaving in such circumstances as the Committee determines (each an ‘approved leaver’), unvested awards and options generally continue and vest on the normal vesting date (or, in the case of Performance Shares held by US executive directors, the first normal vesting date or, if later, cessation), unless the Committee determines that the awards should vest on cessation. Any performance conditions will be applied at the time of vesting. On vesting, the number of shares under award will, unless the Committee decides otherwise, be reduced pro-rata to reflect the period in which the executive director was in employment as a proportion of the relevant vesting period (or in the case of Performance Shares held by US executive directors or Performance Shares granted prior to the 2017 AGM, as a proportion of the initial three-year vesting period). In the event of death, awards generally vest at the time of death subject to the satisfaction of any performance conditions at that time. Awards are then pro-rated as set out above. Where an executive director’s employment is terminated for any other reason, his unvested awards and options will lapse. Options normally remain exercisable for six months after cessation (or vesting, if later) and 12 months after death. If the Committee exercises its discretion to treat a director as an approved leaver as permissible under the leaver provisions of the share plan rules, the exercise of the discretion and reason why the Committee considered such action appropriate will be disclosed. Where an executive director’s employment is terminated or an executive director is under notice of termination for any reason at the dateof award of any Long-Term Incentive awards, no Long-Term Incentive awards will be made. Consideration of employment conditions elsewhere in the Company The Committee has responsibility for reviewing remuneration and related policies applicable to the wider workforce. To support this, the Committee is provided with periodic deep dive sessions on a range of wider workforce remuneration topics that are designed to provide theCommittee with visibility of remuneration practices in the different sectors/markets in which we operate and for the different populations within the wider workforce across the Company globally. This enables the Committee to take the wider workforce into account when setting the policy for executive remuneration. Whilst the Committee does not consult directly with employees as part of the process forreviewing executive pay, the Committee does receive insights from the broader employee population via an engagement survey. Whenconsidering salary increases for the executive directors, the Committee considers thegeneral level of salary increase across the Groupand in the external market. Stakeholder considerations In line with our commitment to full transparency and engagement with our shareholders on the topic of executive remuneration, the Remuneration Committee Chairman conducts an annual programme of consultation with major shareholders. This typically involves setting out the changes planned for the following year, including seeking shareholder input and views to various executive remuneration matters including the development of, or potential changes to, remuneration policy or arrangements. BAE Systems plc Annual Report 2021 183 Governance ## Statutory and other information | Company registration | Office of Fair Trading undertakings | Political donations | | --- | --- | --- | | BAE Systems plc is a public company limited | As a consequence of the merger between | No political donations were made in 2021. | | by shares registered in England and Wales | British Aerospace and the former Marconi | | Issued share capital with the registered number 1470151. Electronic Systems businesses in 1999, the As at 31 December 2021, BAE Systems’ Company gave certain undertakings to the Directors issued share capital of £85,092,881 Secretary of State for Trade and Industry The current directors who served during comprised 3,404,167,171 ordinary shares (now the Secretary of State for Business, the2021 financial year are listed on pages of2.5p each and one Special Share of £1. Energy and Industrial Strategy). In February 115 to 117. Dame Carolyn Fairbairn, 2007, the Company was released from the Share buyback EwanKirk and Crystal Ashby were majority of these undertakings and the During the year, 65,124,972 ordinary appointed to the Board as non-executive remainder have been superseded and varied sharesof 2.5p each were repurchased directors on 1 March, 1 June and by a new set of undertakings. Compliance underthe buyback programme of up 1 September 2021, respectively. with the undertakings is monitored by a to£500m announced on 29 July 2021 compliance officer. Further information On 20 October 2021 the Company andsuch repurchased shares have been regarding the undertakings and the contact announced that Ian Tyler would retire cancelled. The total consideration for details of the compliance officer may be fromthe Board at the conclusion of thepurchase of the shares, including obtained through the Company Secretary theCompany’s Annual General Meeting commission and stamp duty, was atthe Company’s registered office or on5 May 2022. £371,035,840. The percentage of called through the Company’s website. upshare capital (excluding treasury shares) Dividend Profit forecast as at 31 December 2021, which the shares An interim dividend of 9.9p per share was repurchased in 2021 represents, is 2.06%. In its half-year results announcement on paid on 30 November 2021. The directors 29 July 2021, the Group made the following propose a final dividend of 15.2p per Treasury shares statement in respect of the year ending ordinary share. Subject to shareholder As at 1 January 2021, the number of shares 2021, which is regarded as a profit forecast approval, the final dividend will be paid held in treasury totalled 248,995,549 for the purposes of the Financial Conduct on1 June 2022 toshareholders on the share (having a total nominal value of £6,224,889 Authority’s Listing Rule 9.2.18 (and which register on22 April 2022. and representing 7.2% of the Company’s replaced the profit forecast made in the called up share capital at 31 December Annual General Meeting (AGM) Group’s Annual Report 2020): 2020). During 2021, the Company used The Company’s AGM will be held on “Whilst the Group is subject to geopolitical 12,188,518 treasury shares (having a total 5 May2022. | | uncertainties and there remain uncertainties | nominal value of £304,713 and representing | | --- | --- | --- | | Certain information in the Strategic report | arising from the COVID-19 pandemic, | 0.4% of the Company’s called up share | | | progress continues in combatting the virus | capital at 31 December 2021) to satisfy | The following items are set out in the under the vaccination programme in our awards under the Free and Matching Strategic report on pages 1 to 113: major markets and our good operational elements of the Share Incentive Plan – disclosures in relation to the use performance underlines our overall (6,880,958 shares in aggregate), awards offinancial instruments; confidence in the full year guidance. Our full under the Free and Matching elements of – particulars of important events affecting year guidance, issued earlier this year, was the International Share Incentive Plan the Group which have occurred since provided on the basis of an exchange rate (773,801 shares in aggregate), awards 31 December 2020; | | of $1.35:£1. Our results for the first half year | vested under the Performance Shares | | --- | --- | --- | | – an indication of likely future developments | have been reported at an average rate of | element of the Long-Term Incentive Plan | | in the business of the Group; | $1.39:£1. | (2,415,958 shares), awards vested under the | Restricted Shares element of the Long-Term – an indication of the activities of the Group “Given the strong operational performance Incentive Plan (1,704,288 shares), and in the field of research and development; to date, we continue to expect reported options exercised under the Executive Share – actions taken to introduce, maintain or underlying EBIT to increase in the range Option Plan (413,513 shares). The treasury develop arrangements aimed at employees; of6% to 8% over 2020 and underlying shares utilised in respect of the Share EPSto increase in the range of 3% to 5% – greenhouse gas emissions; Incentive Plan, the International Share over 2020, even if the higher than guided – employee engagement (including regard Incentive Plan, and the Performance and $:£ exchange rate continues to year-end.” | to employee interests and encouraging | | Restricted Shares elements of the Long- | | --- | --- | --- | | employees to be shareholders); | In the Group’s Market Update on | Term Incentive Plan were disposed of by the | | | 8 November 2021, the Group clarified that | Company for nil consideration. The 413,513 | – fostering business relationships with the Underlying EPS forecast “Excludes the shares disposed of by the Company in suppliers, customers and others; and one-off tax benefit of 2.9p”. respect of the Executive Share Option Plan – policy in relation to employment of were disposed of by the Company for an disabled persons. Underlying EBIT was £2,205m in 2021. aggregate consideration of £1,637,002. Underlying earnings per share was 47.8p Asat 31 December 2021, the number in2021, excluding the one-off tax benefit ofshares held in treasury totalled of2.9p. 236,807,031 (having a total nominal valueof£5,920,176 and representing 7.0%of the Company’s called up share capital at 31 December 2021). 184 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report | The rights to treasury shares are restricted | The holder of the Special Share has the | – awards of shares made under the | | --- | --- | --- | | inaccordance with the Companies Act | rightto require the Company to redeem the | Company’s Long-Term Incentive Plan | | and,in particular, the voting and dividend | Special Share at par or convert the Special | 2014, Deferred Bonus Plan, Share | | rights attaching to these shares are | Share into one ordinary share at any time. | Incentive Plan, International Share | | automatically suspended. | | Incentive Plan, Group All-Employee | Restrictions on transfer of securities FreeShares Plan and International Profit Rights and obligations of ordinary shares The restrictions on the transfer of shares Sharing Scheme are subject to restrictions On a show of hands at a general meeting inthe Company are as follows: on the transfer of shares prior to vesting every holder of ordinary shares present in – the Special Share may only be issued and/or release. person and entitled to vote shall have one to,held by and transferred to the Special The Company is not aware of any vote, and every proxy entitled to vote shall Shareholder or his successor or nominee; arrangements between its shareholders have one vote (unless the proxy is appointed – the directors shall not register any thatmay result in restrictions on the by more than one member in which case allotment or transfer of any shares to a transferof shares and/or voting rights. the proxy has one vote for and one vote foreign person, or foreign persons acting against if the proxy has been instructed by Significant direct and indirect holders in concert, who at the time have more than one or more members to vote for the ofsecurities a 15% voting interest in the Company, or resolution and by one or more members to who would, following such allotment As at 31 December 2021, the Company had vote against the resolution; or if the proxy ortransfer, have such an interest; been advised of the following significant has been instructed by one or more direct and indirect interests in the issued – the directors shall not register any person shareholders to vote either for or against ordinary share capital of the Company: as a holder of any shares unless they have aresolution and by one or more of those received: (i) a declaration stating that Percentage shareholders to use his discretion how to upon registration, the share(s) will not Name of shareholder notified vote). On a poll, every member present in beheld by foreign persons or that upon Barclays PLC 3.98% person or by proxy and entitled to vote shall registration the share(s) will be held by BlackRock, Inc. 9.90% have one vote for every ordinary share held. aforeign person or persons; (ii) such Subject to the relevant statutory provisions The Capital Group Companies, Inc. 5.02% evidence (if any) as the directors may and the Company’s Articles of Association, Invesco Limited 4.97% require of the authority of the signatory holders of ordinary shares are entitled to Silchester International Investors LLP 3.01% of the declaration; and (iii) such evidence adividend where declared or paid out of 1 Veritas Asset Management LLP 4.62% or information (if any) as to the matters profits available for such purposes. Subject referred to in the declaration as the 1. The Company was notified on 28 January 2022 to the relevant statutory provisions and directors consider appropriate; that Veritas Asset Management LLP’s percentage theCompany’s Articles of Association, had increased to 5.01%. | onareturn of capital on a winding-up, | – the directors may also refuse to register | | | --- | --- | --- | | holders of ordinary shares are entitled, | any instrument of transfer of shares | Exercise of rights of shares in employee | | afterrepayment of the £1 Special Share, | unless the instrument of transfer is in | share schemes | | toparticipate in such a return. There are | respect of only one class of share and it | | The trustees of the employee trusts do noredemption rights in relation to the islodged at the place where the register notseek to exercise voting rights on shares ordinary shares. of members is kept, accompanied by a held in the employee trusts other than on relevant certificate or such other evidence Rights and obligations of the Special Share the direction of the underlying beneficiaries. as the directors may reasonably require No voting rights are exercised in relation to The Special Share is held on behalf of the toshow the right of the transferor to shares unallocated to individual beneficiaries. Secretary of State for Business, Energy and make the transfer; Industrial Strategy (the ‘Special Shareholder’). Restrictions on voting deadlines – the directors may refuse to register an Certain provisions of the Company’s Articles allotment or transfer of shares in favour The notice of any general meeting of Association cannot be amended without ofmore than four persons jointly; shallspecify the deadline for exercising the consent of the Special Shareholder. voting rights and appointing a proxy – where a shareholder has failed to These provisions include the requirement orproxies to vote in relation to resolutions providethe Company with certain that no foreign person, or foreign persons to be proposed at the general meeting. information relating to their interest acting in concert, can have more than a Thenumber of proxy votes for, against inshares, the directors can, in certain 15% voting interest in the Company, the orwithheld in respect of each resolution circumstances, refuse to register a requirement that the majority of the arepublicised on the Company’s website transferof such shares; directors are British, and the requirement after the meeting. that the Chief Executive and any executive – certain restrictions may from time-to-time Chairman are British. be imposed by laws and regulations (for Appointment and replacement example, insider trading laws); ofdirectors The holder of the Special Share is entitled – restrictions may be imposed pursuant to Subject to certain nationality requirements toattend a general meeting, but the Special the Listing Rules of the Financial Conduct mentioned below, the Company may by Share carries no right to vote or any other Authority whereby certain of the Group’s ordinary resolution appoint any person rights at any such meeting, other than to employees require the Company’s tobe a director. speak in relation to any business in respect approval to deal in shares; and of the Special Share. Subject to the relevant The directors also have the power to make statutory provisions and the Company’s appointments to the Board at any time. Articles of Association, on a return of Anyindividual so appointed will hold capital on a winding-up, the holder of the officeuntil the next AGM and shall then Special Share shall be entitled to repayment beeligible for re-election. of the £1 capital paid up on the Special Share in priority to any repayment of capital to any other members. BAE Systems plc Annual Report 2021 185 Governance ## Statutory and other information continued | The majority of directors holding office | and(ii) the higher of the price of the last | Scheme, the BAE Systems 2000 Pension | | --- | --- | --- | | must be British. Otherwise, the directors | independent trade and the highest | Plan, the BAE Systems Executive Pension | | who are not British shall vacate office | currentindependent bid on the London | Scheme and the Alvis Pension Scheme, | | insuch order that those who have been | Stock Exchange. | respectively, which are qualifying indemnity | | inoffice for the shortest period since | | provisions for the purpose of the Companies | This power will expire at the earlier of the theirappointment shall vacate their office Act 2006. conclusion of the 2022 AGM or 30 June first, unless all of the directors otherwise 2022. A special resolution will be proposed All such indemnity provisions are in force agree among themselves. Any director at the 2022 AGM to renew the Company’s asat the date of this Directors’ report. whoholds the office of either Chairman authority to acquire its own shares. (inan executive capacity) or Chief Executive Change of control – significant shall also be British. At the 2021 AGM, the directors were agreements giventhe power to issue new shares up The following significant agreements The Company must have not less than toanominal amount of £26,832,194. contain provisions entitling the sixdirectors holding office at all times. Thispower will expire on the earlier of the counterparties to exercise termination, Ifthenumber is reduced to below six, conclusion of the 2022 AGM or 30 June alteration or other similar rights in the event thensuch number of persons shall be 2022. Accordingly, a resolution will be of a change of control of the Company: appointed as directors as soon as is proposed at the 2022 AGM to renew reasonably practicable to reinstate the – The Group entered into a £2bn Revolving theCompany’s authority to issue further number of directors to six. The Company Credit Facility dated 12 December 2013 new shares. may by ordinary resolution from time-to- which was amended and restated on time vary the minimum number of directors. Conflicts of interest 27 October 2021. The facility provides that, in the event of a change of control As permitted under the Companies Act All directors will stand for election or of the Company, the lenders are entitled 2006, the Company’s Articles of Association re-election in 2022 as required by the to renegotiate terms, or if no agreement contain provisions which enable the Board Company’s Articles of Association and is reached on negotiated terms within to authorise conflicts or potential conflicts incompliance with the UK Corporate acertain period, to call for the repayment that individual directors may have. Governance Code. or cancellation of the facility. The Revolving To avoid potential conflicts of interest the Amendment of the Company’s Articles Credit Facility was undrawn as at Board requires the Nominations Committee of Association 31 December 2021. to check that any individuals it nominates The Company’s Articles of Association may – The Company has entered into a Restated for appointment to the Board are free of only be amended by a special resolution at and Amended Shareholders Agreement potential conflicts. In addition, the Board’s a general meeting of shareholders. Where with European Aeronautic Defence procedures and the induction programme class rights are varied, such amendments andSpace Company EADS N.V. (EADS) for new directors emphasise a director’s must be approved by the members of each and Finmeccanica S.p.A. (Finmeccanica) personal responsibility for complying with class of shares separately. relating to MBDA S.A.S. dated the duties relating to conflicts of interest. 18 December 2001 (as amended). In the In addition, certain provisions of the Articles The procedure adopted by the Board for event that control of the Company passes of Association cannot be amended without theauthorisation of conflicts reminds to certain specified third-party acquirors, the consent of the Special Shareholder. directors of the need to consider their duties the agreement allows EADS and These provisions include the requirement as directors and not grant an authorisation Finmeccanica to exercise an option to that no foreign person, or foreign persons unless they believe, in good faith, that this terminate certain executive management acting in concert, can have more than would be likely to promote the success level nomination and voting rights, and a15% voting interest in the Company, ofthe Company. As required by law, certain shareholder information rights therequirement that the majority of the thepotentially conflicted director cannot ofthe Company in relation to the MBDA directors are British, and the requirement vote on an authorisation resolution or be joint venture. Following the exercise of that the Chief Executive and any executive counted in the quorum. Any authorisation this option, the Company would have the Chairman are British. granted may be terminated at any time right to require the other shareholders to andthe director is informed of the Powers of the directors purchase its interest in MBDA at fair obligation to inform the Company without market value. The directors are responsible for the delay should there be any material change management of the business of the – The Company and EADS have agreed in the nature of the conflict or potential Company and may exercise all powers thatif Finmeccanica acquires a controlling conflict so authorised. ofthe Company subject to applicable interest in the Company, EADS will Directors’ indemnities | legislation and regulation, and the | | increase its shareholding in MBDA to 50% | | --- | --- | --- | | Articlesof Association. | The Company has entered into deeds of | by purchasing the appropriate number | | | indemnity with all its current directors and | ofshares in MBDA at fair market value. | At the 2021 AGM, the directors were those persons who were directors for any – The Company, BAE Systems, Inc., giventhe power to buy back a maximum part of 2021 which are qualifying indemnity BAESystems (Holdings) Limited and number of 322,018,538 ordinary shares provisions for the purpose of the Companies BAESystems Holdings Inc. entered into ataminimum price of 2.5p each. Act 2006. aSpecial Security Agreement dated Themaximum price was the higher of 23 October 2015 with the US Department (i)anamount equal to 105% of the average The directors of BAE Systems Pension of Defense regarding the management of of the middle market quotations of the FundsTrustees Limited, BAE Systems 2000 BAE Systems, Inc. in order to comply with Company’s ordinary shares as derived from Pension Plan Trustees Limited, BAE Systems the US government’s national security the London Stock Exchange Daily Official Executive Pension Scheme Trustees Limited requirements. In the event of a change List for the five business days immediately and Alvis Pension Scheme Trustees Limited ofcontrol of the Company, the preceding the day on which such ordinary benefit from indemnities in the governing Agreement may be terminated or altered shares are contracted to be purchased, documentation of the BAE Systems Pension by the USDepartment of Defense. 186 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report | – In June 2017, BAE Systems Surface Ships | – In November 2020, BAE Systems Global | Where the MoD considers that a proposed | | --- | --- | --- | | Limited entered into a contract with the | Combat Systems Munitions Limited | change of control of BAE Systems Marine | | UK Ministry of Defence (MoD) for the | andthe MoD entered into a 15-year | Limited would be contrary to the defence, | | manufacture of the first batch of three | agreement for the provision of | national security or national interest of | | Type 26 frigates. Where the MoD | ammunition to UK forces (the Next | the UK, then the change of control shall | | considers that a proposed change of | Generation Munitions Solution (NGMS) | not proceed until agreement is established | | control of BAE Systems Surface Ships | agreement) from 2023 to 2037. Where | with the MoD. In the event that there | | Limited would be contrary to the defence, | the MoD has any concerns regarding | isachange of control of BAE Systems | | national security or national interest of | aproposed change of control of | Marine Limited, notwithstanding the | | the UK or where the change of control | BAESystems Global Combat Systems | objection of the MoD on such grounds, | | would result in increased costs to the | Munitions Limited and such concerns | the MoD shall be entitled to terminate | | MoD under the contract, then the | arenot resolved, then if the change | theagreements immediately. | | changeof control shall not proceed until | ofcontrol proceeds, the MoD may | – In December 2018, BAE Systems’ | | agreement with the MoD is established. | terminate the contract. | subsidiary, ASC Shipbuilding Pty Limited, | | Ifthere is a change of control without | – In November 2012, BAE Systems Marine | entered into a contract providing the | | notice or notwithstanding the objection | Limited entered into a contract with the | framework for the design and | | of the MoD on such grounds, then the | MoD for the design, construction, testing | manufacture of Hunter Class Frigates | | MoD may terminate the contract with | and commissioning of Boat 4 of the | forthe Royal Australian Navy (Head | | immediate effect. | Astute Class programme. In November | Contract). As part of the acquisition | | – The FMSP Ships Engineering | 2015, BAE Systems Marine Limited | ofASC Shipbuilding Pty Limited from | | Managementand Delivery agreement | entered into a contract with the MoD | theAustralian Commonwealth, | | between BAE Systems Surface Ships | forthe design, construction, testing | BAESystems Australia Limited entered | | Limited and the MoD was entered into | andcommissioning of Boat 5 of the | into a Sovereign Capability and Option | | on31 March 2021 for the provision of | Astute Class programme. In March 2016, | Deed (SCOD). Under the Head Contract | | surface ship engineering management | BAE Systems Marine Limited entered into | and the SCOD, if there is a change of | | and delivery services relating to HM Naval | a contract with the MoD for the design, | control of ASC Shipbuilding Pty Limited | | Base Portsmouth. Where the MoD | construction, testing and commissioning | orBAE Systems Australia Limited, | | considers that a proposed change of | of Boat 6 of the Astute Class Programme. | consentis required from the Australian | | control of BAE Systems Surface Ships | In March 2018, BAE Systems Marine | Commonwealth Government prior to | | Limited would be contrary to the defence, | Limited entered into a contract with the | anychange of control occurring. If there | | national security or national interest of | MoD for the design, construction, testing | isa change of control without notice | | the UK, then the change of control shall | and commissioning of Boat 7 of the | ornotwithstanding an objection, the | | not proceed until agreement with the | Astute Class Programme. Where the | Commonwealth may terminate the Head | | MoD is established. If there is a change of | MoDconsiders that a proposed change | Contract, take any action to mitigate an | | control without notice or notwithstanding | ofcontrol of BAE Systems Marine Limited | actual or potential threat to Australia’s | | the objection of the MoD, the MoD shall | would be contrary to the defence, national | national security interests, or exercise its | | be entitled to terminate the agreement. | security or national interest of the UK, then | call option under the SCOD and regain | | | the change of control shall not proceed | ownership of ASC Shipbuilding Pty Limited. | – In August 2008, BAE Systems Land until agreement is established with the In June 2021, BAE Systems Australia Limited Systems (Munitions & Ordnance) Limited MoD. In the event that there is a change entered into a contract providing the (now BAE Systems Global Combat of control of BAE Systems Marine Limited, framework for the provision of in-service Systems Munitions Limited) and the notwithstanding the objection of the MoD support for the Hawk aircraft until June MoDentered into a 15-year partnering on such grounds, the MoD shall be entitled 2031. If there is a change of control of agreement for the provision of to terminate the agreements immediately. BAE Systems Australia Limited or ammunition to UK Forces (the Munitions | Acquisition Supply Solution (MASS) | – In December 2011, BAE Systems Marine | BAESystems plc without consent from the | | --- | --- | --- | | partnering agreement). Where the | Limited entered into a contract with the | Australian Commonwealth Government, | | MoDconsiders that a proposed change | MoD for the design of the Dreadnought | the Australian Commonwealth may | | ofcontrol of BAE Systems Global Combat | submarines. Where the MoD considers | terminate the contract. | | Systems Munitions Limited would be | that a change of control of BAE Systems | | In addition, the Company’s share plans contrary to the defence, national security Marine Limited would be contrary to contain provisions as a result of which or national interest of the UK, then the thedefence, national interest or national options and awards may vest and become change of control shall not proceed until security of the UK, then the change of exercisable on a change of control of the agreement with the MoD is established. control shall not take place until agreement Company in accordance with the rules of In the event that there is a change is reached with the MoD on how to the plans. | ofcontrol of BAE Systems Global | proceed. In the event that there is a | | --- | --- | | CombatSystems Munitions Limited, | change of control notwithstanding the | | notwithstanding the objection of the | objection of the MoD on such grounds, | | MoD on such grounds, the MoD may, | the MoD shall be entitled to terminate | | having followed the dispute resolution | thecontract with immediate effect. | | process, terminate the MASS agreement | – In September 2016, BAE Systems Marine | | for default. The MASS agreement | Limited entered into a contract with the | | terminates on 31 December 2022 | MoD for the initial phase of manufacturing | | andisreplaced by NGMS. | activities for the Dreadnought Class | programme. This contract was extended and amended to include additional manufacturing activities in March 2018. BAE Systems plc Annual Report 2021 187 Governance ## Statutory and other information continued Auditor The directors are responsible for keeping ### adequate accounting records that are Responsibility statement of the Deloitte LLP have indicated their sufficient to show and explain the parent ### willingnessto be re-appointed as the directors in respect of the Annual company’s transactions and disclose Company’s auditor and a resolution ### Report and financial statements withreasonable accuracy at any time the proposing their re-appointment will financial position of the parent company Each of the directors listed belowconfirms beputto the 2022 AGM. and enable them to ensure that its financial that to the best oftheir knowledge: Statement of directors’ responsibilities statements comply with the Companies Act – the financial statements, prepared in inrespect of the Annual Report and 2006. They are responsible for such internal accordance with the applicable set thefinancial statements control as they determine is necessary ofaccounting standards, give a true The directors are responsible for toenable the preparation of financial andfair view of the assets, liabilities, preparingthe Annual Report, and the statements that are free from material financialposition and profit or loss Group and parent company financial misstatement, whether due to fraud oftheCompany, and the undertakings statements in accordance with applicable orerror, and have general responsibility included in the consolidation taken as law and regulations. fortaking such steps as are reasonably awhole; and opento them to safeguard the assets Company law requires the directors – the Strategic report and Directors’ report, oftheGroup and to prevent and detect toprepare Group and parent company taken together, include a fair review of fraud and other irregularities. financial statements for each financial thedevelopment and performance of the year.Under that law, they are required Under applicable law and regulations, business, and the position of the Company toprepare the Group financial statements thedirectors are also responsible for and the undertakings included in the inaccordance with International Financial preparing a strategic report, directors’ consolidation taken as a whole, together Reporting Standards as adopted by the report, directors’ remuneration report with a description of the principal risks UK(IFRS) and applicable law, and have andcorporate governance statement that and uncertainties that they face. elected toprepare the parent company comply with that law and those regulations. In addition, each of the directors considers financial statements in accordance with The directors are responsible for the that the Annual Report, taken as a whole, UKaccounting standards, including maintenance and integrity of the corporate isfair, balanced and understandable, Financial Reporting Standard (FRS) 101, and financial information included on andprovides the information necessary Reduced Disclosure Framework. thecompany’s website. Legislation in forshareholders to assess the Company’s Under company law, the directors must theUK governing the preparation and position and performance, business notapprove the financial statements unless dissemination of financial statements may modeland strategy. they are satisfied that they give a true and differ from legislation in other jurisdictions. Sir Roger Carr Chairman fair view of the state of affairs of the Group Statement of disclosure of information Charles Woodburn Chief Executive and parent company, and of their profit toauditor Tom Arseneault President & Chief orloss for that period. In preparing each The directors who held office at the date Executive Officer ofthe Group and parent company financial ofBAESystems, Inc. ofapproval of this Directors’ report confirm statements, the directors are required to: that, so far as they are each aware, there is Brad Greve Group Finance Director – select suitable accounting policies no relevant audit information of which the Nick Anderson Non-executive director andthen apply them consistently; Company’s auditor is unaware; and each Crystal Ashby Non-executive director – make judgements and estimates director has taken all the steps that he/she Dame Elizabeth Corley Non-executive director thatarereasonable, relevant, reliable ought to have taken to make himself/herself Dame Carolyn Fairbairn Non-executive director andprudent; aware of any relevant audit information Jane Griffiths Non-executive director – for the Group financial statements, andto establish that the Company’s Chris Grigg Non-executive director statewhether they have been prepared auditoris aware of that information. Ewan Kirk Non-executive director inaccordance with IFRSs as adopted bythe EU; Stephen Pearce Non-executive director Nicole Piasecki Non-executive director – for the parent company financial statements, state whether applicable Ian Tyler Non-executive director UKaccounting standards have been followed, subject to any material On behalf of the Board departures disclosed and explained in | theparent company financial statements; | Sir Roger Carr | | --- | --- | | – assess the Group and parent company’s | Chairman | | ability to continue as a going concern, | 23 February 2022 | disclosing, as applicable, matters related to going concern; and – use the going concern basis of accounting unless they either intend to liquidate the | Group or the parent company or to cease | Directors’ report | | --- | --- | | operations, or have no realistic alternative | The Directors’ report was approved by the Board of directors on 23 February 2022. | | but to do so. | David Parkes | Company Secretary 188 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ## Independent Auditor’s report ## to the members of BAE Systems plc only ### Report on the audit of the financial statements The components, which were either subject to a ### 1. Opinion 2. Basis for opinion full-scope audit or audit of specified account We conducted our audit in accordance with In our opinion: balances, contribute 87% of revenue, 84% of International Standards on Auditing (UK) profit before tax and 92% of total assets. The – the financial statements of BAE Systems Plc (ISAs(UK)) and applicable law. Our responsibilities remaining components were subject to other (the ‘Parent Company’) and its subsidiaries under those standards are further described in procedures, including conducting analytical (the ‘Group’) give a true and fair view of the the auditor’s responsibilities for the audit of the reviews, making enquiries and evaluating and state of the Group’s and of the Parent financial statements section of our report. testing management’s group-wide controls. Company’s affairs as at 31 December 2021 We are independent of the Group and the and of the Group’s profit for the year then Significant changes in our approach ParentCompany in accordance with the ethical ended; requirements that are relevant to our audit of There have been no significant changes in – the Group financial statements have been ourapproach from the prior year. thefinancial statements in the UK, including properly prepared in accordance with theFinancial Reporting Council’s (the ‘FRC’s’) ### United Kingdom adopted international 4. Conclusions relating Ethical Standard as applied to listed public accounting standards; ### interestentities, and we have fulfilled our other togoingconcern – the Parent Company financial statements ethical responsibilities in accordance with these In auditing the financial statements, we have have been properly prepared in accordance requirements. The non-audit services provided to concluded that the directors’ use of the going with United Kingdom Generally Accepted the Group and Parent Company for the year are concern basis of accounting in the preparation Accounting Practice, including Financial disclosed in note 2 to the financial statements. ofthe financial statements is appropriate. | Reporting Standard 101 “Reduced | We confirm that we have not provided any | | | --- | --- | --- | | Disclosure Framework”; and | non-audit services prohibited by the FRC’s Ethical | Our evaluation of the directors’ assessment | | | Standard to the Group or the Parent Company. | oftheGroup’s and Parent Company’s ability | – the financial statements have been prepared tocontinue to adopt the going concern basis in accordance with the requirements of the We believe that the audit evidence we have ofaccounting included: Companies Act 2006. obtained is sufficient and appropriate to provide – obtaining an understanding of relevant a basis for our opinion. controlsover management’s going concern We have audited the financial statements models, including the review of the inputs ### whichcomprise: 3. Summary of our audit approach andassumptions used in those models; – the consolidated income statement; Key audit matters – testing the accuracy of management’s models, – the consolidated and Parent Company The key audit matters that we identified including agreement to the most recent board statement of comprehensive income; inthecurrent year were: approved budgets and forecasts; – the consolidated and Parent Company – revenue and margin recognition on – challenging the key assumptions of these statements of changes in equity; long-termcontracts; forecasts by: – the consolidated and Parent Company – carrying value of goodwill; and – reading analyst reports, industry data and balancesheets; | | – valuation of post-employment | other external information and comparing | | --- | --- | --- | | – the consolidated cash flow statement; and | benefitobligations. | these with management’s estimates; | | – the related notes 1 to 36 and 1 to 12, including | | – comparing forecast revenue with the Group’s | Within this report, key audit matters are the associated accounting policies. order book and historical performance; identified as follows: The financial reporting framework that has been – evaluating the historical accuracy of forecasts Increased level of risk applied in the preparation of the Group financial prepared by management; statements is applicable law, United Kingdom Similar level of risk – assessing the sensitivity of the headroom adopted international accounting standards. andmanagement’s forecasts; and Decreased level of risk Thefinancial reporting framework that has – assessing the sufficiency of the Group’s beenapplied in the preparation of the Parent Materiality disclosure concerning the going concern basis. Company financial statements is applicable law The materiality that we used for the Group and United Kingdom Accounting Standards, financial statements was £82.5m which was including FRS 101 “Reduced Disclosure determined on the basis of forecast adjusted Framework” (United Kingdom Generally profit before tax, adjusted for non-recurring Accepted Accounting Practice). itemsas well as fair value and foreign exchange adjustments on financial instruments, as described further in section 6 below. Scoping Thirty-one components were subject to audit procedures. Of these, six components were subject to a full-scope audit. Of the remaining twenty-five components, twenty-one were subject to an audit of specified account balancesand four were subject to specified auditprocedures. BAE Systems plc Annual Report 2021 189 Governance ## Independent Auditor’s report continued Based on the work we have performed, we We focus a greater proportion of audit effort Challenging management’s assumptions havenot identified any material uncertainties ona number of contracts where we consider andestimates relating to events or conditions that, individually there to be the highest degree of management To gain assurance over the contract judgements or collectively, may cast significant doubt on the judgement required and design contract specific and estimates made, our work included: Group’s and Parent Company’s ability to continue procedures to mitigate the associated risks. – making inquiries of contract project teams and as a going concern for a period of at least twelve In order to identify the key contracts where there other personnel to obtain an understanding of months from when the financial statements are is a significant risk of material misstatement, we the performance of the project throughout the authorised for issue. undertook a contract risk assessment process at year and at year-end; In relation to the reporting on how the Group each component utilising data analytics, the latest – analysing historical contract performance hasapplied the UK Corporate Governance Code, contract information, our understanding of the andunderstanding the reason for in-year we have nothing material to add or draw business, the results of prior audits and review movements or changes; attention to in relation to the directors’ statement ofexternal information about market and – testing the underlying calculations used in in the financial statements about whether the geopolitical conditions which might impact thecontract assessments for accuracy and directors considered it appropriate to adopt the certain contracts. We held meetings with key completeness, including the estimated costs going concern basis of accounting. finance and contract managers, attended tocomplete the contract alongside associated quarterly business review meetings and other Our responsibilities and the responsibilities of contingencies. As part of this we considered keymanagement meetings, read and understood thedirectors with respect to going concern are historical forecasting accuracy of costs, underlying contract documentation and obtained described in the relevant sections of this report. including on similar programmes, and management support for key contract challenged future cost expectations with judgements. In addition, we looked for contracts ### 5. Key audit matters reference to those data points; that might have higher levels of judgement Key audit matters are those matters that, in associated with the risk of schedule delivery or – examining external correspondence to assess ourprofessional judgement, were of most technical complexity, fixed price contracts which the timeframe for delivery of the product or significance in our audit of the financial increase the risk of contract losses and other service and any judgements made in respect statements of the current period and include indicators that could increase the risk of a ofthese; themost significant assessed risks of material material impact on the financial statements, – examining external evidence to assess contract misstatement (whether or not due to fraud) including any potential climate-related risks. status and estimation of variable consideration thatwe identified. These matters included (including associated recoverability of contract As a result of our risk assessment we identified thosewhich had the greatest effect on: the balances), such as customer correspondence two contracts where we consider there to be overall audit strategy, the allocation of resources and for certain contracts or meeting with the thehighest degree of management judgement in the audit; and directing the efforts of the customer directly; required in estimating the outturn margin engagement team. position. These are: – enquiring with in-house and external legal These matters were addressed in the context of counsel regarding contract related litigation – Type 26 frigates; and our audit of the financial statements as a whole, and claims; – Armored Multi-Purpose Vehicles (AMPV). and in forming our opinion thereon, and we do – considering whether there were any indicators not provide a separate opinion on these matters. We consider the level of risk associated with of management override of controls or bias thiskey audit matter has decreased from the inarriving at their reported position; and 5.1. Revenue and margin recognition prioryear as a result of the reduced number – conducting production site visits to inform onlong-term contracts ofcontracts identified with a higher degree ourchallenge of the cost to complete estimate Refer to page 129 (Audit Committee report) and ofmanagement judgement. and understanding of contract status. Note 1 (accounting policy and financial disclosures) How the scope of our audit responded Key observations Revenue: tothe key audit matter The results of our testing were satisfactory. £19,521m (2020: £19,277m) Our contract testing approach included: Through our testing of those contracts with Testing the relevant controls Key audit matter description thehighest degree of management judgement – We obtained an understanding of and we did not identify any audit adjustments and The estimation of both overall lifetime contract testedrelevant manual and IT controls within consider the judgements made by management margin and the appropriate level of revenue and management’s Lifecycle Management ‘LCM’ in recognising revenue and profit to be profit to recognise in any single accounting period Framework and project accounting processes reasonable. We have concluded overall that the requires the exercise of management judgement. which management have established to ensure judgements made by management are reasonable. Within BAE Systems’ contract portfolio there are that contracts are appropriately forecast, a number of programmes where the estimates managed, challenged and accounted for. required in reaching these judgements are – As part of this, we observed the controls in complex and could lead to a material error within operation by attending a sample of project the financial statements if reached incorrectly. contract status review meetings, quarterly Consequently, we consider that revenue and business review meetings and Group level margin recognition represent a significant risk meetings to validate the various levels of toour audit and a key audit matter. challenge applied to the forecasts. 190 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report 5.2. Carrying value of goodwill The size of the balance, level of management Key observations judgement and audit effort involved in assessing Refer to page 129 (Audit Committee report) and We completed our audit of the forecasts of the the carrying value of goodwill means we consider Note 8 (accounting policy and financial disclosures) P&S and Munitions businesses and are satisfied this to be a key audit matter. that management’s assumptions are reasonable Goodwill: How the scope of our audit responded and supportable based on available evidence, £10,910m (2020: £10,846m) both internal and external. tothe key audit matter We have performed a series of specific audit Management has concluded that no Key audit matter description procedures to address the key audit matter reasonablypossible change in a key assumption The Group holds material goodwill balances, identified in relation to these CGUs. This would lead to impairment and we concur themajority of which are in the US. Management includedthe following: withthat conclusion. performs an impairment review of the carrying – we obtained a detailed understanding value of each Cash Generating Unit (‘CGU’) on 5.3. Valuation of post-employment ofmanagement’s process and relevant anannual basis in line with the requirements benefit obligations controlsfor performing the CGU impairment ofIAS 36. | | assessment. Specific focus was given to | Refer to page 129 (Audit Committee report) and | | --- | --- | --- | | The impairment assessment involves management | understanding management’s process | Note 24 (accounting policy and financial disclosures) | | judgement in considering whether each carrying | andrelevant controls over forecasting future | | | value of the CGU is recoverable. Determining | | Group’s share of the net IAS 19 deficit after | cash flows and determination of the key therecoverable amount involves significant allocation to equity accounted investments: assumptions as detailed above; estimation including: £2,124m (2020: £4,485m) – we challenged forecast performance – forecasting future cash flows; withreference to the recent and historical Valuation of post-employment benefit obligation – determining the discount rate; and performance of each CGU, historical assets before allocation to equityaccounted forecasting accuracy and external industry investments: – determining future growth rates. benchmarks. This included performing £31,580m (2020: £29,729m) In planning our audit, we determined there to be sensitivity analysis to evaluate the impact of Valuation of post-employment benefit obligation a heightened level of impairment risk in relation changing a range of assumptions including liabilities before allocation toequity accounted to the carrying value of goodwill associated with suppressed growth, lower margin assumptions investments: the Platforms & Services US (‘P&S’) and Land and changes in the discount rate; £33,866m (2020: £34,574m) Munitions (‘Munitions’) CGUs. These CGUs have – we assessed the risks and opportunities goodwill of £3,358m and £427m respectively. identified by management in their forecasts Key audit matter description Through our risk assessment, we determined and modelled different scenarios to understand The principal post-employment benefit schemes thatthe key drivers of future cash flows in each the impact of both adverse and positive are held in the UK and US and are funded defined CGU were as follows: changes to the future forecasts and the level benefit schemes, with assets held in separate ofassociated headroom; – P&S: future demand, long-term contract trustee-administered funds. margin and operating cash flow assumptions, – we have challenged the long term growth predominantly within the Combat Munitions rateassumption with reference to market, We identified the following areas which were Systems business; and industry and economic data combined with thefocus of our procedures in auditing the anevaluation of the underlying key contracts Group’s net post-employment benefit obligations – Munitions: long-term business growth that underpin the future growth assumptions; as a key audit matter: drivenby future demand and financial performance under revised contract terms. – where management’s forecasts have assumed Liabilities significant contract renewals or an extension The key judgements relating to the post- As a result, we have performed additional toexisting contracts (i.e. moving from initial employment benefit obligations include: procedures over these key cash flow assumptions tofull rate of production) we challenged those for each of these CGUs. – inflation assumptions for the UK schemes, judgements with operational management including the basis for determining the Specifically, in relation to Munitions, there is a and, where relevant, correspondence with inflationrisk premium; lower level of headroom between the recoverable thecustomer over contract renewal; – discount rates; and amount and its carrying value and as such we – operating cash flow and working capital have identified there to be a higher level of risk of – mortality assumptions. assumptions were challenged, including the material impairment, which we have pinpointed impact of climate change-related risks, with Given the significant size of the post-employment to the long-term revenue growth assumptions. reference to our revenue contract audit work benefit obligations at year-end, small changes for key programmes, as well as historical tothese input assumptions can lead to material In addition, for P&S, the headroom between trendsfor each line of business; changes in the net IAS 19 deficit. Assumptions recoverable and carrying amount remains highly sensitive to changes in long-term growth rate and – we tested the integrity of management’s are also made in the determination of the margin assumptions, particularly in the Combat impairment model used to derive the Group’s share of assets and liabilities of Munitions Systems business. recoverable amount; and multi-employer schemes in which it participates and the corresponding amounts attributed – we involved Deloitte valuation specialists In comparison to the prior year there has been an toother participating employers. tosupport our challenge of the applicable improvement in the headroom of the Munitions discount rate. business and a reduction in the number of CGUs deemed to have a heightened level of impairment risk. As such, the overall level of risk has reduced. BAE Systems plc Annual Report 2021 191 Governance ## Independent Auditor’s report continued | Assets | – we considered the adjustment made by | Assets | | --- | --- | --- | | Given the size and nature of the scheme assets | management to the CMI 2020 mortality | In relation to asset valuations we have performed | | there is significant audit effort required in | tablesto apply a weighting factor to reflect its | the following procedures with increased focus | | ensuring the valuation of assets is supportable. | assessment of the potential Covid-19 mortality | onthose assets with a higher valuation risk as | | | impact, with reference to advice the Company | noted above: | Certain asset classes are inherently more has received from its actuaries; – we tested the pension asset valuation controls judgemental to value and have a higher level ofassociated valuation risk, namely: – we assessed the relevant control environment for certain asset classes; of the third party administrators who maintain – we performed audit procedures relating to – private equity investments; membership data on behalf of the Group theassets held within the pension schemes – pooled investment vehicles without through review of their ISAE 3402 controls through seeking third party confirmation from publishedmarket prices; reporting, including considering and asset managers and/or custodians or other – private placements; responding to any findings therein; supporting evidence as appropriate; – longevity swaps; and – we performed analytical procedures to – in conjunction with our Deloitte actuarial – property assets. challenge key changes in membership data specialists, we challenged the fair value since the last triennial valuation, the most assumptions used to value the longevity We consider the level of risk associated with this recent pension scheme accounts, and that swapsincluding the future projected key audit matter is consistent with the prior year. usedin the IAS 19 valuation; mortalityrates and discount rate; How the scope of our audit responded – we agreed a sample of cash contributions – we assessed publicly available information on tothe key audit matter made into the pension funds; and the assets, comparing to internal benchmarks Liabilities – we assessed the competence, capabilities and reconciling inputs used by management In relation to post-employment benefit andobjectivity of the actuaries engaged todetermine the asset values; and obligations we have performed the bymanagement to perform the valuations – in the case of specialist asset classes, such followingprocedures: ofthe schemes. asproperties, involved relevant specialists to – we obtained a detailed understanding and challenge the third-party valuations performed performed walkthroughs of management’s with reference to recent market transactions, process, with specific focus on understanding rental yields and movements in the MSCI key controls relating to the valuation of the RealEstate index. post-employment benefit obligation including Key observations maintenance of membership data; Overall, we consider the discount rate and other – in conjunction with Deloitte actuarial key pension assumptions used by management specialists, we challenged the assumptions incalculating the post-employment benefit used in the IAS 19 valuation, including obligation to be within our independently assessing and challenging the reasonableness developed reasonable range. of the assumptions against available market data and benchmarking against their peers; We concluded our testing of the assets and are satisfied that they are appropriately valued. – we gave specific focus to challenging the basis on which the Group determined the inflation rate actuarial assumptions for the UK and USSchemes, with reference to our own independent modelling and other market datasources; 192 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report ### 6. Our application of materiality 6.1. Materiality We define materiality as the magnitude of misstatement in the financial statements that makes it probable that the economic decisions of a reasonably knowledgeable person would be changed or influenced. We use materiality both in planning the scope ofour audit work and in evaluating the results of our work. Based on our professional judgement, we determined materiality for the financial statements as a whole as follows: Group financial statements Parent Company financial statements | Materiality | £82.5m (2020: £72.5m) £39.5m (2020: £44.0m) | | | --- | --- | --- | | Basis for determining | 4.7% of adjusted profit before tax of £1,769m | Materiality has been set with reference to the | | materiality | (2020: 4.5% of adjusted profit before tax | netassets of the Parent Company. | of£1,618m). This includes an adjustment for non-recurring itemsof £346m relating to property and business disposals and £5m of fair value adjustments andforeign exchange movements on financial instruments detailed in notes 1 and 5 of the financialstatements. Rationale for the Adjusted profit before tax was considered to be This represents 1% of the Parent Company benchmark applied themost relevant benchmark as it is considered netassets. themost stable and comparable profit metric. We consider net assets the key benchmark Theadjustments excluded relate to items we usedby members of the Parent Company in consider are one-off in nature and not reflective assessing financial performance. ofthe underlying performance of the business. We consider the measure suitable having also considered the other relevant benchmark of profit before taxation, where our materiality equates to3.9%. Component The work performed on components identified in our Group audit scope (excluding the Parent Company) materiality was completed to component materiality levels between £20.4m and £31.7m (2020: £15.0m and £30.6m). 6.2. Performance materiality We set performance materiality at a level lower than materiality to reduce the probability that, in aggregate, uncorrected and undetected misstatements exceed the materiality for the financial statements as a whole. Group financial statements Parent Company financial statements Performance 70% (2020: 65%) of Group materiality 70% (2020: 70%) of Parent Company materiality materiality Basis and rationale In determining performance materiality for the In determining performance materiality for fordetermining Group, we considered the following factors: theParent Company, we considered the performance – the quantum and nature of the uncorrected followingfactors: materiality misstatements identified in the prior year audit; – the quantum and nature of the uncorrected – our assessment of the potential for uncorrected misstatements identified in the prior year audit; misstatements in the current year; – our assessment of the potential for uncorrected – our risk assessment, including our assessment misstatements in the current year; and ofthe overall control environment; and – our risk assessment, including our assessment – the size and nature of the contract-based of the overall control environment. significant risks of material misstatement identified. In the prior year a judgemental reduction was madeto the percentage applied to allow for uncertainties associated with Covid-19 in the operation of the Group’s controls. Now the impact on the business is well understood, we have reverted to our pre-existing level of performance materiality. 6.3. Error reporting threshold We agreed with the Audit Committee that we would report to the Committee all audit differences in excess of £4.125m (2020: £3.625m), as well as differences below that threshold that, in our view, warranted reporting on qualitative grounds. Wealsoreport to the Audit Committee on disclosure matters that we identified when assessing the overall presentation ofthefinancial statements. BAE Systems plc Annual Report 2021 193 Governance ## Independent Auditor’s report continued Revenue of our audit work. These were typically the ### 7. An overview of the scope of our audit principal Enterprise Resource Planning (’ERP’) 7.1. Identification and scoping systems for each business that govern the general C ofcomponents ledger and contract accounting balances, and in We performed our scoping of the Group audit some cases also included ancillary/feeder systems byobtaining an understanding of the Group and into the main ERP. A its environment, including Group-wide controls, In the current year our controls approach was and assessing the audit risks. This exercise principally designed to inform our risk assessment B considered the relative size of each reporting and also to allow us to test the operating unit’s contribution to revenue, profit before tax effectiveness of certain relevant revenue controls. and adjusted profit before tax, alongside further We also assessed relevant general IT controls. The financial or contractual risks, which we Group continues to invest in its IT systems and A Full scope 46% considered to be present. there is an ongoing programme of remediating B Specified account balances 41% We considered units that contribute more than any control findings where they are identified C Specified audit procedures 13% 10% of the Group’s revenue or adjusted profit through its own assurance framework, including andreviewat the Group level before tax to be “financially significant” and Internal Audit, or through the external audit. requiring a full scope audit. In addition, as part Aspart of our controls work in the prior and ofour risk assessment procedures and using our current year, we identified a number of control knowledge of the business, we assessed where deficiencies that management is in the process of Profit before tax else we consider it appropriate to perform a full remediating as disclosed in the Audit Committee scope audit. This resulted in full scope audits for report on page 129. Where deficiencies have six components located in the UK, Saudi Arabia been identified and the remediation activity C and the US, and included the Group’s largest joint remained ongoing during the current year, or venture, Matra BAE Dynamics Alenia (“MBDA”). theremediated controls were not in place for A asufficient enough period prior to the year-end, Additionally, our audit planning identified we did not seek to place reliance on those twenty-five non-financially significant relevant IT systems for the purpose of our audit. components, located in the UK, Saudi Arabia, B Australia and the US, where we considered The majority of the focus of our significant thereto be a reasonable possibility of material account balance controls assessment is in relation misstatement in specific balances within to the Group’s contract accounting processes, thefinancial statements. We directed these theLifecycle Management Framework (‘LCM’). A Full scope 42% component auditors to perform an audit of For each component where revenue is in scope, B Specified account balances 42% specified account balances or specified audit we obtain an understanding of, and test, relevant C Specified audit procedures 16% procedures on the respective income statements contract controls, such as with respect to the andreviewat the Group level and balance sheets for these components. estimation of contract costs and the amount ofcontract revenue to recognise in the period. For all components designated financially Ateach business unit we also consider key controls significant or subject to an audit of specified relevant to other income statement and balance Total assets account balances, revenue was determined sheet items where they are considered relevant tobein scope for the audit. toour audit for risk assessment purposes. C For all other reporting units not included in We also considered head office controls relating full-scope, specified account balance scope or to central balances and processes such as pension specified audit procedure scope, we performed accounting, consolidation and financial reporting, centrally-directed analytical review procedures A treasury, tax and the Group’s planning and toconfirm our conclusion that there was no B budgeting process. significant risk of material misstatement in theresidual population. During the course of our audit, we placed reliance on a number of relevant contract accounting As each of the business units maintains separate controls and certain valuation controls in relation financial records, we engaged component to pension assets. | A Full scope 48% | | | auditors from the Deloitte member firms in the | | | --- | --- | --- | --- | --- | | B Specified account balances 44% | | | US, UK, Saudi Arabia and Australia to perform | 7.3. Our consideration | | | | | procedures at all the wholly owned components | of climate-related risks | | C Specified audit procedures | | 8% | | | | | andreviewat the Group level | | under our direction and supervision. This | | As highlighted in management’s Task Force approach also allowed us to engage local auditors onClimate-related Financial Disclosures (TCFD) who have appropriate knowledge of local onpage 38 and the principal risks on page 112, regulations to perform the audit work, under the Group is exposed to the impacts of climate acommon Deloitte audit approach. change on its business and operations. We In respect of MBDA, we engaged with the considered the risks associated with climate entity’s non-Deloitte auditors to perform change when determining our scope and audit afull-scope audit under our direction approach. In particular, we pinpointed potential andsupervision. risks associated with climate change to revenue recognition on long term programmes and The twenty-seven components within either full goodwill impairment, as described in the key or specified account balance scope contribute the audit matters in sections 5.1 and 5.2 above. proportions of Group totals shown to the left. Ourconsideration of climate related risks also 7.2. Our consideration of extended to our work in respect of going concernand long term viability. thecontrolenvironment The Group operates a range of IT systems 7.4. Working with other auditors whichunderpin the financial reporting process. Our oversight of component auditors included These can vary by business and/or by geography. directing the planning of their audit work and For all of the components that were subject to understanding their risk assessment process to either a full scope or audit of specified balances, identify key areas of estimates and judgement, we identified relevant IT systems for the purpose aswell as the supervising the execution of their 194 BAE Systems plc Annual Report 2021 Financial statementsGovernanceStrategic report audit work. We issued detailed instructions If we identify such material inconsistencies or 11.1. Identifying and assessing potential tothecomponent auditors, reviewed and apparent material misstatements, we are required risks related to irregularities challenged the related component inter-office to determine whether this gives rise to a material In identifying and assessing risks of material reporting and findings from their work, reviewed misstatement in the financial statements misstatement in respect of irregularities, including underlying audit files, attended component audit themselves. If, based on the work we have fraud and non-compliance with laws and closing conference calls and held regular remote performed, we conclude that there is a material regulations, we considered the following: communication to interact on any related audit misstatement of this other information, we are and accounting matters which arose. Additionally, required to report that fact. – the nature of the industry and sector, all teams were involved in our annual planning controlenvironment and business workshop, which was led by the Group audit performanceincluding the design of the We have nothing to report in this regard. | team. Visits to meet with certain component | | Group’s remuneration policies, key drivers | | --- | --- | --- | | teams in the UK and Saudi Arabia were | | fordirectors’ remuneration, bonus levels | | | 9. Responsibilities of directors | andperformance targets; | conducted and we mitigated our inability to | visitother overseas components due to Covid-19 | As explained more fully in the directors’ | – the Group’s own assessment of the risks | | --- | --- | --- | | travel restrictions through increased remote | responsibilities statement, the directors are | thatirregularities may occur either as a result | | communication and remote review of audit | responsible for the preparation of the financial | offraud or error; | | working papers. | statements and for being satisfied that they give | | – results of our enquiries of management, a true and fair view, and for such internal control The BAE Systems, Inc. business units in the internal legal counsel, internal audit and as the directors determine is necessary to enable USaresubject to a Department of Defence theAudit Committee about their own the preparation of financial statements that are Special Security Arrangement (‘SSA’), which is identification and assessment of the risks free from material misstatement, whether due agovernment requirement setting out specific ofirregularities; tofraud or error. protocol that foreign controlled companies must – any matters we identified having obtained comply with in order to be able to undertake In preparing the financial statements, the andreviewed the Group’s documentation government defence contracts. As part of this directors are responsible for assessing the Group’s oftheir policies and procedures relating to: there is restriction on the flow of information and the Parent Company’s ability to continue as – identifying, evaluating and complying with outside of the US. Therefore, for the US agoing concern, disclosing as applicable, matters laws and regulations and whether they were components there are restrictions around access related to going concern and using the going aware of any instances of non-compliance; to the audit file and specific workpapers for concern basis of accounting unless the directors – detecting and responding to the risks of non-US nationals. As such we have designed either intend to liquidate the Group or the Parent fraud and whether they have knowledge alternative procedures, including involvement Company or to cease operations, or have no ofany actual, suspected or alleged fraud; ofan additional independent US national partner, realistic alternative but to do so. in order to have appropriate oversight of the – the internal controls established to mitigate UScomponent team. risks of fraud or non-compliance with laws ### 10. Auditor’s responsibilities for the and regulations, including obtaining an ### In addition to the work performed by other audit of the financial statements understanding of the Group’s bribery and auditors, we have audited the consolidation Our objectives are to obtain reasonable assurance corruption and whistleblowing policies; and process and carried out analytical procedures about whether the financial statements as a – the matters discussed among the audit over the residual financial information of the whole are free from material misstatement, engagement team including significant remaining components not subject to audit whether due to fraud or error, and to issue an component audit teams and involving orsubject only to audit of specified account auditor’s report that includes our opinion. relevantinternal specialists, including tax, balances. We also perform audit procedures on Reasonable assurance is a high level of assurance, valuations, pensions and IT specialists centrally managed balances including treasury, but is not a guarantee that an audit conducted regardinghow and where fraud might occur post-employment benefit obligations, litigation inaccordance with ISAs (UK) will always detect inthe financial statements and any potential and claims, goodwill, tax and head office costs. amaterial misstatement when it exists. indicators of fraud. Misstatements can arise from fraud or error We are satisfied that the level of involvement andare considered material if, individually or in As a result of these procedures, we considered of the Group audit partner and team in the the aggregate, they could reasonably be expected the opportunities and incentives that may exist component audits has been extensive and has to influence the economic decisions of users within the organisation for fraud and identified enabled us to conclude that sufficient appropriate taken on the basis of these financial statements. the greatest potential for fraud in the level of audit evidence has been obtained in support of judgement involved in estimating costs to our opinion on the Group financial statements A further description of our responsibilities for complete on long-term contracts and the asa whole. the audit of the financial statements is located subsequent impact on revenue and margin onthe FRC’s website at: www.frc.org.uk/ The Parent Company is located in the United recognition. In common with all audits under auditorsresponsibilities. This description forms Kingdom and audited directly by the Group ISAs (UK), we are also required to perform part of our auditor’s report. auditteam. specific procedures to respond to the risk ofmanagement override. ### 8. Other information 11. Extent to which the audit was We also obtained an understanding of the ### The other information comprises the considered capable of detecting legaland regulatory frameworks that the informationincluded in the annual report, ### irregularities, including fraud Groupoperates in, focusing on provisions of otherthan the financial statements and our those laws and regulations that had a direct Irregularities, including fraud, are instances auditor’s report thereon. The directors are effect on the determination of material amounts ofnon-compliance with laws and regulations. responsible for the other information and disclosures in the financial statements. The Wedesign procedures in line with our containedwithin the annual report. key laws and regulations we considered in this responsibilities, outlined above, to detect Our opinion on the financial statements does context included the UK Companies Act, Listing materialmisstatements in respect of notcover the other information and, except Rules, pension legislation and taxation legislation. irregularities,including fraud. The extent to tothe extent otherwise explicitly stated in whichour procedures are capable of detecting In addition, we considered provisions of ourreport, we do not express any form of irregularities, including fraud is detailed below. otherlaws and regulations that do not have assurance conclusion thereon. adirect effect on the financial statements We identify and assess the risks of material Our responsibility is to read the other information butcompliance with which may be fundamental misstatement of the financial statements, and, in doing so, consider whether the other to the Group’s ability to operate or to avoid a whether due to fraud or error, and then design information is materially inconsistent with the material penalty, including in respect of export and perform audit procedures responsive to those financial statements or our knowledge obtained controls, defence contracting and anti-bribery risks, including obtaining audit evidence that is in the course of the audit, or otherwise appears and corruption legislation. sufficient and appropriate to provide a basis for to be materially misstated. our opinion. BAE Systems plc Annual Report 2021 195 Governance ## Independent Auditor’s report continued ### Report on other legal and regulatory requirements 11.2. Audit response to risks identified – adequate accounting records have not been ### 12. Opinions on other matters kept by the Parent Company, or returns ### As a result of performing the above, we prescribed by the Companies adequate for our audit have not been received identifiedrevenue and margin recognition on ### Act2006 from branches not visited by us; or long-term contracts as a key audit matter related to the potential risk of fraud. The key audit – the Parent Company financial statements are In our opinion the part of the directors’ matters section of our report explains the matter not in agreement with the accounting records remuneration report to be audited has been in more detail and also describes the specific and returns. properly prepared in accordance with the procedures we performed in response to that Companies Act 2006. We have nothing to report in respect keyaudit matter. ofthesematters. In our opinion, based on the work undertaken In addition to the above, our procedures to in the course of the audit: respond to risks identified included the following: 14.2. Directors’ remuneration – the information given in the strategic report – reviewing the financial statement disclosures Under the Companies Act 2006 we are also and the directors’ report for the financial and testing to supporting documentation to required to report if in our opinion certain year for which the financial statements are assess compliance with provisions of relevant disclosures of directors’ remuneration have prepared is consistent with the financial laws and regulations described as having a notbeen made or the part of the directors’ statements; and direct effect on the financial statements; remuneration report to be audited is not in – the strategic report and the directors’ – enquiring of management, the Audit agreement with the accounting records and returns. report have been prepared in accordance Committee, in-house legal counsel and with applicable legal requirements. whereappropriate, circularising external We have nothing to report in respect legalcounsel, concerning actual and In the light of the knowledge and ofthesematters. potentiallitigation and claims; understanding of the Group and the Parent Company and their environment obtained in ### – performing analytical procedures to identify 15. Other matters which we are the course of the audit, we have not identified any unusual or unexpected relationships that ### required to address any material misstatements in the strategic may indicate risks of material misstatement report or the directors’ report. 15.1. Auditor tenure dueto fraud; Following the recommendation of the Audit – reading minutes of meetings of those charged ### 13. Corporate Governance Statement Committee, we were appointed by the members with governance, reviewing internal audit on 10 May 2018 to audit the financial statements reports and reviewing correspondence with The Listing Rules require us to review the directors’ for the year ending 31 December 2018 and relevant regulatory authorities; statement in relation to going concern, longer- subsequent financial periods. The period of total – in addressing the risk of fraud through term viability and that part of the Corporate uninterrupted engagement including previous management override of controls, testing Governance Statement relating to the Group’s renewals and reappointments of the firm is four theappropriateness of journal entries and compliance with the provisions of the UK Corporate years covering the years ending 31 December other adjustments; assessing whether the Governance Code specified for our review. 2018 to 31 December 2021. judgements made in making accounting Based on the work undertaken as part estimates are indicative of a potential bias; 15.2. Consistency of the audit report ofouraudit, we have concluded that each andevaluating the business rationale of any withthe additional report to the ofthe following elements of the Corporate significant transactions that are unusual or AuditCommittee Governance Statement is materially consistent outside the normal course of business; and with the financial statements and our Our audit opinion is consistent with the additional – as part of assessing relevant controls as knowledge obtained during the audit: report to the Audit Committee we are required to outlined above in Section 7.2, we sought provide in accordance with ISAs (UK). – the directors’ statement with regards the togain an understanding of the ongoing appropriateness of adopting the going impact of Covid-19 on the risk of management ### concern basis of accounting and any 16. Use of our report override of controls, including the impact material uncertainties identified set out This report is made solely to the Company’s ofevolving working practices on the nature onpage 123; members, as a body, in accordance with Chapter and operation of those controls, to inform | ourrisk assessment and conclusions on | – the directors’ explanation as to its | 3 of Part 16 of the Companies Act 2006. Our | | --- | --- | --- | | theireffectiveness. | assessment of the Group’s prospects, the | audit work has been undertaken so that we | | | period this assessment covers and why the | might state to the Company’s members those | We also communicated relevant identified laws period is appropriate set out on page 122; matters we are required to state to them in an and regulations and potential fraud risks to all auditor’s report and for no other purpose. To the – the directors’ statement on fair, balanced engagement team members including internal fullest extent permitted by law, we do not accept and understandable set out on page 132; specialists and significant component audit or assume responsibility to anyone other than teams, and remained alert to any indications – the board’s confirmation that it has carried theCompany and the Company’s members offraud or non-compliance with laws and out a robust assessment of the emerging asabody, for our audit work, for this report, regulations throughout the audit. and principal risks set out on page 122; orforthe opinions we have formed. – the section of the annual report that In due course, as required by the Financial describes the review of effectiveness Conduct Authority (FCA) Disclosure Guidance ofriskmanagement and internal control and Transparency Rule (DTR) 4.1.14R, these systems set out on page 122; and financial statements will form part of the – the section describing the work of the European Single Electronic Format (ESEF) Audit Committee set out on page 129. prepared Annual Financial Report filed on the National Storage Mechanism of the UK FCA in ### 14. Matters on which we are required accordance with the ESEF Regulatory Technical Standard (‘ESEF RTS’). This auditor’s report ### John Adam to report by exception provides no assurance over whether the annual Senior Statutory Auditor 14.1. Adequacy of explanations received financial report has been prepared using the and accounting records single electronic format specified in the ESEF RTS. For and on behalf of Under the Companies Act 2006 we are required Deloitte LLP Statutory Auditor to report to you if, in our opinion: London, United Kingdom – we have not received all the information and 23 February 2022 explanations we require for our audit; or 196 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ## Financial statements ### Group accounts Preparation of the consolidated 16. Inventories 236 financialstatements 198 17. Current tax 236 Consolidated income statement 201 18. Cash and cash equivalents 236 Consolidated statement 19. Business disposals 237 of comprehensive income 202 20. Geographical analysis of assets 238 Consolidated statement | of changes in equity 203 | 21. Loans and overdrafts 239 | | --- | --- | | Consolidated balance sheet 204 | 22. Contract liabilities 240 | | Consolidated cash flow statement 205 | 23. Trade and other payables 240 | | 1. Segmental analysis and | 24. Post-employment benefits 241 | revenuerecognition 206 25. Provisions 253 2. Operating costs 211 26. Share capital and other reserves 254 3. Employees 212 27. Cash flow from operating activities 257 4. Other income 212 28. Movement in assets and liabilities | 5. Net finance costs 213 | | arising from financing activities 258 | | --- | --- | --- | | 6. Taxation expense 214 | 29. Net debt (excluding lease liabilities) 258 | | | 7. Earnings per share 217 | 30. Fair value measurement 259 | | | 8. Intangible assets 217 | 31. Share-based payments 260 | | | 9. Property, plant and equipment 221 | 32. Related party transactions 261 | | | 10. Leases 223 | 33. Contingent liabilities 262 | | | 11. Investment property 226 | 34. Acquisitions of businesses 262 | | | 12. Equity accounted investments 227 | 35. Events after the reporting period 263 | | | 13. Trade, other and contract receivables 229 | 36. Information about | | related undertakings 264 14. Other financial assets and liabilities andfinancial risk management 230 15. Deferred tax 234 ### Company accounts Company statement of comprehensive income 268 Company statement of changes in equity 268 Company balance sheet 269 Notes to the Company accounts 270 Group accounting policies Accounting policies are included within therelevant note to the Group accounts. BAE Systems plc Annual Report 2021 197 Financial statements ## Preparation of the consolidated ## financial statements ### Basis of preparation The consolidated financial statements of BAE Systems plc have been prepared on a going concern basis, as discussed in the Directors’ report on page123, and in accordance with UK-adopted International Financial Reporting Standards (IFRS) and the Companies Act 2006 applicable tocompanies reporting under IFRS. Following the ending of the transition period of the UK leaving the EU, the FRC established the UK Endorsement Board (UKEB) in order to endorse and adopt international accounting standards issued by the International Accounting Standards Board (IASB) for use by UK companies. In the interim period between the end of the transition period and the UKEB becoming operational, some standards and amendments were adopted by the Secretary of State for Business, Energy and Industrial Strategy. For the yearended 31 December 2020, the Group continued to apply EU-adopted IFRS. From 1 January 2021, the Group has prepared consolidated financial statements in accordance with UK-adopted IFRS, which has not differed from the EU-adopted IFRS. The consolidated financial statements are presented in pounds sterling and, unless stated otherwise, rounded to the nearest million. They have been prepared under the historical cost convention, as modified by the revaluation of certain financial assets and financial liabilities (including derivative instruments). Transactions in foreign currencies are translated at the exchange rates ruling at the dates of the transactions. Monetary assets and liabilities denominated in foreign currencies are retranslated at the exchange rates ruling at the balance sheet date, with the resulting exchange differences recognised in the income statement. ### Significant accounting policies The significant accounting policies applied in the preparation of these consolidated financial statements are set out in the relevant notes. These policies have been applied consistently to all the years presented, unless otherwise stated. The directors believe that the consolidated financial statements reflect appropriate judgements and estimates, and provide a true and fair view of the Group’s financial performance and position. ### Key sources of estimation uncertainty The application of the Group’s accounting policies requires the use of estimates. The impact of the COVID-19 pandemic on economic activity has been significant, and its uncertain nature means this may continue as governments continue to respond. While the Group has addressed theimpact on its business effectively to date, given the ongoing risks and uncertainties, it continues to conduct ongoing risk assessments and scenario planning in order that it can respond to potential rapid changes in circumstances. The Group will therefore need to consider a range ofestimates and assumptions in the application of its accounting policies and management’s assessment of the carrying values of assets and liabilities. In the event that these estimates or assumptions prove to be incorrect, there may be an adjustment to the carrying values of assets and liabilities within the next year. Potential areas of the Group’s financial statements which could be materially impacted may include, but arenot limited to: Accounting policy Description Notes Revenue and profit The Group accounts for revenue in accordance with IFRS 15 Revenue from Contracts with Customers. 1 recognition Formost of the Group’s contracts, revenue and associated margin are recognised progressively over time ascosts are incurred, and as risks have been mitigated or retired. The ultimate profitability of contracts is based on estimates of revenue and costs, including allowances fortechnical and other risks including the impacts of COVID-19 and climate change, which are reliant on the knowledge andexperience of the Group’s project managers, engineers and finance and commercial professionals. Material changes in these estimates could affect the profitability of individual contracts. Revenue and cost estimates are reviewed and updated at least quarterly, and more frequently as determined by events or circumstances. The long-term nature of many of the Group’s contracts means that judgements are made in estimating future costs on a contract, as well as when risks will be mitigated or retired. The impact of the COVID-19 pandemic, global supply chain issues, volatility in global gas and energy prices, and the ongoing response to climate change, have increased uncertainty in relation to these judgements and estimates. The Group continues to work closely and collaboratively with its key customers tocontinue to deliver effectively onits contracts and commitments. However, the volume, scale, complexity and long-term nature of itsprogrammes mean that a range of calculated potential sensitivities would be wide-ranging and not practicable to calculate. Owing to the ongoing uncertainty regarding the potential future impact of the current uncertainties, the Group’s estimates and assumptions related to revenue recognition could be impacted by issues such as reduced productivity as a result of operational disruption or altered working practices to comply with safety and social distancing requirements, production delays and increased costs as a result of disruption to the supply chain, changing working practices to move towards net zero, or where there is uncertainty as to the recovery from customers of programme costs incurred. As shown in note 1, the Group has recognised £0.3bn of revenue in respect of performance obligationssatisfied or partially satisfied in previous periods (2020 £0.3bn). This continues to provide anapproximation of the potential revenue sensitivity arising as a result of management’s estimates andassumptions for variable consideration, future costs, and technical and other risks, however may not reflect the full potential impact on the contract receivables and contract liabilities balances. 198 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report Post-employment A number of actuarial assumptions are made in assessing the value of post-employment benefit 24 benefit obligations obligations, including discount rate, inflation rate, and mortality assumptions. For each of the actuarial assumptions used there is a wide range of possible values and management estimates a point within that range that most appropriately reflects the Group’s circumstances. If estimates relating to these actuarial assumptions are no longer valid or change due to changing economic and social conditions, which could be impacted by the longer-term implications of the COVID-19 pandemic, then the potential obligations due under these schemes could change significantly. Discount and inflation rates could change significantly as a result of a prolonged economic downturn, monetary policy decisions and interventions or other macro-economic issues resulting from the pandemic. The impact of estimates made with regard to mortality projections may also change significantly, given the uncertainty in this area resulting from the pandemic. Similarly, the values of many assets are subject to estimates and assumptions, in particular those whichare held in unquoted pooled investment vehicles. The associated fair value of these unquoted pooled investments is estimated with consideration of the most recently available valuations provided by the investment or fund managers. These valuations inherently incorporate a number of assumptions including the risk associated with the COVID-19 pandemic and the impact of climate change on the underlying investments. The overall level of estimation uncertainty in valuing these assets could therefore give rise to a material change in valuation within the next 12 months. Note 24 provides information on the key assumptions and analysis of their sensitivities. In preparing the consolidated financial statements management has considered the potential impact of climate change, in the context of thedisclosures included in the Strategic report this year and the Group’s net zero targets. These considerations did not have a material impact on the financial reporting judgements and estimates. The following additional areas of estimation were considered in reaching this conclusion: – estimates of future cash flows to support impairment assessments of the carrying value of non-current assets and the assessment of going concern and the longer-term viability of the Group; – an assessment of the useful economic lives of assets; and – potential climate-related impacts on the Group’s environmental provisions, in particular with regard to legislative changes. ### Critical judgements made in applying accounting policies In the course of preparing the financial statements and when applying its accounting policies, the Group has been required to make judgements with regard to the actions required to enable the business to continue to meet customers’ requirements, in an operating environment still dominated by uncertainties arising from the COVID-19 pandemic. No critical judgements have been made in the process of applying the Group’s accounting policies, other than those involving estimates, that have had a significant effect on the amounts recognised in the financial statements. ### Changes in accounting policies The following standards, interpretations and amendments to existing standards became effective on 1 January 2021 and have not had amaterial impact on the Group: – Amendments to IFRS 9, IAS 39, IFRS 7, IFRS 4 and IFRS 16: Interest Rate Benchmark Reform (Phase 2), effective from 1 January 2021; and – Amendments to IFRS 4 Insurance Contracts: deferral of IFRS 9, effective from 1 January 2021. The following amendments to existing standards have been issued and became effective in the year as a response to the COVID-19 pandemic, but did not have a material impact on the Group: – Amendment to IFRS 16 Leases: Covid-19-Related Rent Concessions beyond 30 June 2021, effective from 1 April 2021 and adopted by the UKSecretary of State for Business, Energy and Industrial Strategy on 21 May 2021. The following other standards, interpretations and amendments to existing standards have been issued but were not mandatory for accounting periods beginning on 1 January 2021. These are expected to be endorsed by the UK Endorsement Board and are not expected to have a material impact on the Group: – IFRS 17 Insurance Contracts, effective from 1 January 2023 (not yet endorsed by the UK); – Amendments to IFRS 17: Insurance Contracts, effective from 1 January 2023 (not yet endorsed by the UK); – Amendments to IAS 1: Presentation of Financial Statements, effective from 1 January 2023 (not yet endorsed by the UK); – Amendments to IFRS 3: Business Combinations, effective from 1 January 2022 (not yet endorsed by the UK); – Amendments to IAS 8: Accounting Policies, Changes in Accounting Estimates and Errors, effective from 1 January 2023 (not yet endorsed bythe UK); – Amendments to IAS 12: Income Taxes, effective from 1 January 2023 (not yet endorsed by the UK); – Amendments to IAS 16: Property, Plant and Equipment, effective from 1 January 2022 (not yet endorsed by the UK); – Amendments to IAS 37: Provisions, Contingent Liabilities and Contingent Assets, effective from 1 January 2022 (not yet endorsed by the UK); and – Annual Improvements to IFRS Standards 2018-2020 Cycle, effective from 1 January 2022 (not yet endorsed by the UK). BAE Systems plc Annual Report 2021 199 Financial statements ## Preparation of the consolidated ## financial statements cont inued ### Consolidation The financial statements of the Group consolidate the results of the Company and its subsidiary entities, and include its share of its joint ventures’ results accounted for under the equity method. A subsidiary is an entity controlled by the Group. The Group controls a subsidiary when it is exposed, or has the rights, to variable returns from itsinvolvement with the subsidiary and has the ability to affect those returns through its power over the subsidiary. The results of subsidiaries are included in the income statement from the date of acquisition. Intra-group balances and transactions, and any unrealised income and expenses arising from intra-group transactions, are eliminated in preparing the consolidated financial statements. Joint ventures are accounted for under the equity method where the Consolidated income statement includes the Group’s share of their profits andlosses, and the Consolidated balance sheet includes its share of their net assets within equity accounted investments. The assets and liabilities of overseas subsidiaries and equity accounted investments are translated at the exchange rates ruling at the balance sheet date. The income statements of such entities are translated at average rates of exchange during the year. All resulting exchange differences are recognised directly in a separate component of equity. Translation differences that arose before the transition date to IFRS (1 January 2004) are presented in equity, but not as a separate component. When a foreign operation is sold, the cumulative exchange differences recognised in equity since 1 January 2004 are recognised in the income statement as part of the profit or loss on sale. 200 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## Consolidated income statement for the year ended 31 December | | Notes | 2021 | | 2020 | | | --- | --- | --- | --- | --- | --- | | | | £m | Total £m | £m | Total £m | | **Continuing operations** | | | | | | | Revenue | 1 | | **19,521** | | 19,277 | | Operating costs | 2 | | **(17,743)** | | (17,686) | | Other income | 4 | | **472** | | 270 | | Share of results of equity accounted investments | 1 | | **139** | | 69 | | Operating profit | 1 | | **2,389** | | 1,930 | | *Financial income* | | **32** | | 17 | | | *Financial expense* | | **(311)** | | (351) | | | **Net finance costs** | 5 | | **(279)** | | (334) | | Profit before taxation | | | **2,110** | | 1,596 | | Taxation expense | 6 | | **(198)** | | (225) | | **Profit for the year** | | | **1,912** | | 1,371 | | **Attributable to:** | | | | | | | Equity shareholders | | | **1,758** | | 1,299 | | Non-controlling interests | | | **154** | | 72 | | | | | **1,912** | | 1,371 | | **Earnings per share** | 7 | | | | | | Basic earnings per share | | | **55.2p** | | 40.7p | | Diluted earnings per share | | | **54.7p** | | 40.5p | BAE Systems plc Annual Report 2021 201 Financial statements ## Consolidated statement of comprehensive income ## for the year ended 31 December 2021 2020 | | Other | | Retained | | | Other | | Retained | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | 1 | | | | | 1 | | | | | | reserves | | earnings | | Total | reserves | | earnings | | Total | | Notes | £m | | | £m | £m | £m | | | £m | £m | Profit for the year – 1 ,9 12 1, 912 – 1, 3 71 1, 3 71 Other comprehensive income Items that will not be reclassified to the income statement: Consolidated: Remeasurements on post-employment benefit schemes – 2 , 4 51 2 , 4 51 – (1 , 3 61) (1, 3 6 1) Tax on items that will not be reclassified to the income statement 6 – (39 4) (3 94) – 330 33 0 Share of the other comprehensive income of associates and joint ventures accounted for using the equity method (net of tax) – 64 64 – (55) (55) Items that may be reclassified to the income statement: Consolidated: Currency translation on foreign currency net investments 32 – 32 (224) – (2 24) Reclassification of cumulative currency translation reserve ondisposal of subsidiary 19 (9) – (9) (35) – (35) Fair value gain arising on hedging instruments during theperiod 11 – 11 46 – 46 Cumulative fair value (gain)/loss on hedging instruments reclassified tothe income statement (3 2) – (32) 42 – 42 Tax on items that may be reclassified to the income statement 6 4 – 4 (1 6) – (16) Share of the other comprehensive income of associates and joint ventures accounted for using the equity method (net of tax) (4) – (4) (3) – (3) Total other comprehensive income for the year (net of tax) 2 2 ,1 2 1 2 ,1 2 3 (19 0) (1, 0 8 6) (1, 27 6) Total comprehensive income for the year 2 4 ,033 4,035 (19 0) 285 95 Attributable to: Equity shareholders (3) 3,882 3, 879 ( 17 6) 213 37 Non-controlling interests 5 151 15 6 (14) 72 58 2 4 ,033 4, 035 (19 0) 28 5 95 1. An analysis of other reserves is provided in note 26. 202 BAE Systems plc Annual Report 2021 Strategic report. Governance. Financial statements ## Consolidated statement of changes in equity for the year ended 31 December | | Notes | Attributable to equity holders of BAE Systems plc | | | | | Non-controlling interests £m | Total equity £m | | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | Issued share capital £m | Share premium £m | Other reserves £m | Retained earnings £m | Total £m | | | | Balance at 1 January 2021 | | 87 | 1,249 | 5,923 | (2,616) | 4,643 | 278 | 4,921 | | *Profit for the year* | | – | – | – | 1,758 | 1,758 | 154 | 1,912 | | *Total other comprehensive income for the year* | | – | – | (3) | 2,124 | 2,121 | 2 | 2,123 | | Total comprehensive income for the year | | – | – | (3) | 3,882 | 3,879 | 156 | 4,035 | | Share-based payments (inclusive of tax) | 31 | – | – | – | 94 | 94 | – | 94 | | Cumulative fair value gain on hedging instruments transferred to the balance sheet (net of tax) | | – | – | (35) | – | (35) | – | (35) | | Ordinary share dividends | 26 | – | – | – | (777) | (777) | (202) | (979) | | Purchase of own shares | 26 | (2) | – | 2 | (371) | (371) | – | (371) | | Unclaimed assets programme proceeds | | – | 3 | – | – | 3 | – | 3 | | **At 31 December 2021** | | **85** | **1,252** | **5,887** | **212** | **7,436** | **232** | **7,668** | | Balance at 1 January 2020 | | 87 | 1,249 | 6,156 | (2,085) | 5,407 | 104 | 5,511 | | *Profit for the year* | | – | – | – | 1,299 | 1,299 | 72 | 1,371 | | *Total other comprehensive income for the year* | | – | – | (176) | (1,086) | (1,262) | (14) | (1,276) | | Total comprehensive income for the year | | – | – | (176) | 213 | 37 | 58 | 95 | | Share-based payments (inclusive of tax) | 31 | – | – | – | 73 | 73 | – | 73 | | Cumulative fair value gain on hedging instruments transferred to the balance sheet (net of tax) | | – | – | (35) | – | (35) | – | (35) | | Ordinary share dividends | 26 | – | – | – | (746) | (746) | (28) | (774) | | Partial disposal of shareholding in subsidiary undertaking | | – | – | (22) | (71) | (93) | 144 | 51 | | **At 31 December 2020** | | **87** | **1,249** | **5,923** | **(2,616)** | **4,643** | **278** | **4,921** | 1. An analysis of other reserves is provided in note 26. BAE Systems plc Annual Report 2021 203 Financial statements ## Consolidated balance sheet as at 31 December | | Notes | 2021 £m | 2020 £m | | --- | --- | --- | --- | | **Non-current assets** | | | | | Intangible assets | 8 | 11,716 | 11,745 | | Property, plant and equipment | 9 | 2,852 | 2,655 | | Right-of-use assets | 10 | 1,091 | 1,053 | | Investment property | 11 | 67 | 128 | | Equity accounted investments | 12 | 554 | 409 | | Other investments | | 76 | – | | Other receivables | 13 | 551 | 506 | | Post-employment benefit surpluses | 24 | 483 | 408 | | Other financial assets | 14 | 305 | 248 | | Deferred tax assets | 15 | 622 | 972 | | | 20 | 18,317 | 18,124 | | **Current assets** | | | | | Inventories | 16 | 811 | 858 | | Trade, other and contract receivables | 13 | 4,825 | 5,491 | | Current tax | 17 | 71 | 6 | | Other financial assets | 14 | 194 | 189 | | Cash and cash equivalents | 18 | 2,917 | 2,768 | | Assets held for sale | 19 | – | 94 | | | | 8,818 | 9,406 | | **Total assets** | | 27,135 | 27,530 | | **Non-current liabilities** | | | | | Loans | 21 | (4,604) | (4,957) | | Lease liabilities | 10 | (1,083) | (1,020) | | Contract liabilities | 22 | (519) | (524) | | Other payables | 23 | (1,248) | (1,164) | | Post-employment benefit obligations | 24 | (2,607) | (4,893) | | Other financial liabilities | 14 | (302) | (282) | | Deferred tax liabilities | 15 | (77) | – | | Provisions | 25 | (331) | (386) | | | | (10,771) | (13,226) | | **Current liabilities** | | | | | Loans and overdrafts | 21 | (457) | (467) | | Lease liabilities | 10 | (212) | (236) | | Contract liabilities | 22 | (2,874) | (3,238) | | Trade and other payables | 23 | (4,636) | (4,898) | | Other financial liabilities | 14 | (214) | (181) | | Current tax | 17 | (27) | (72) | | Provisions | 25 | (276) | (291) | | | | (8,696) | (9,383) | | **Total liabilities** | | (19,467) | (22,609) | | **Net assets** | | 7,668 | 4,921 | | **Capital and reserves** | | | | | Issued share capital | 26 | 85 | 87 | | Share premium | | 1,252 | 1,249 | | Other reserves | 26 | 5,887 | 5,923 | | Retained earnings/(deficit) | | 212 | (2,616) | | **Total equity attributable to equity holders of BAE Systems plc** | | 7,436 | 4,643 | | **Non-controlling interests** | | 232 | 278 | | **Total equity** | | 7,668 | 4,921 | Approved by the Board of BAE Systems plc on 23 February 2022 and signed on its behalf by: **C N Woodburn** **B M Greve** Chief Executive Group Finance Director 204 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## Consolidated cash flow statement for the year ended 31 December | | Notes | 2021 £m | 2020 £m | | --- | --- | --- | --- | | **Profit for the year** | | **1,912** | 1,371 | | Taxation expense | 6 | **198** | 225 | | Adjustment in respect of research and development expenditure credits | 4 | **(16)** | (28) | | Share of results of equity accounted investments | 1 | **(139)** | (69) | | Net finance costs | 5 | **279** | 334 | | Depreciation, amortisation and impairment | 2 | **720** | 675 | | Gain on investment revaluation | 4 | – | (6) | | Profit on disposal of property, plant and equipment, and investment property | 2,4 | **(192)** | (25) | | Profit on sale and leaseback | 4 | – | (21) | | (Gain)/loss in respect of held for sale assets and business disposals | 2,4 | **(158)** | 5 | | Cost of equity-settled employee share schemes | | **92** | 74 | | Movements in provisions | | **(66)** | (30) | | Difference between pension funding contributions paid and the pension charge | | **(18)** | (1,396) | | (Increase)/decrease in working capital: | | | | | Inventories | | **54** | 24 | | Trade, other and contract receivables | | **610** | – | | Trade and other payables, and contract liabilities | | **(615)** | 122 | | Research and development expenditure credits – cash received | | **20** | 162 | | Taxation paid | | **(234)** | (251) | | **Net cash flow from operating activities** | | **2,447** | 1,166 | | Dividends received from equity accounted investments | 12 | **57** | 27 | | Interest received | | **23** | 19 | | Principal element of finance lease receipts | | **10** | 10 | | Purchase of property, plant and equipment, and investment property | | **(366)** | (385) | | Purchase of intangible assets | | **(96)** | (92) | | Purchase of non-current other investments | | **(15)** | – | | Proceeds from sale of property, plant and equipment, and investment property | | **271** | 68 | | Proceeds from sale of non-current other investments | | – | 19 | | Equity accounted investment funding | 12 | **(3)** | (2) | | Purchase of subsidiary undertakings, net of cash and cash equivalents acquired | 34 | **(30)** | (1,706) | | Cash flow in respect of held for sale assets and business disposals, net of cash and cash equivalents disposed | 19 | **215** | 5 | | **Net cash flow from investing activities** | | **66** | (2,037) | | Interest paid | | **(247)** | (227) | | Equity dividends paid | 26 | **(777)** | (746) | | Purchase of own shares | 26 | **(368)** | – | | Dividends paid to non-controlling interests | | **(202)** | (19) | | Partial disposal of shareholding in subsidiary undertaking | | **28** | 27 | | Principal element of lease payments | | **(217)** | (236) | | Cash inflow from derivative financial instruments (excluding cash flow hedges) | | **61** | 59 | | Cash outflow from derivative financial instruments (excluding cash flow hedges) | | **(149)** | (43) | | Cash flow from movement in cash collateral | | **(18)** | (2) | | Cash inflow from loans | | – | 2,666 | | Cash outflow from repayment of loans | | **(367)** | (506) | | **Net cash flow from financing activities** | 28 | **(2,256)** | 973 | | **Net increase in cash and cash equivalents** | | **257** | 102 | | Cash and cash equivalents at 1 January | | **2,667** | 2,587 | | Effect of foreign exchange rate changes on cash and cash equivalents | | **(7)** | (22) | | **Cash and cash equivalents at 31 December** | | **2,917** | 2,667 | | Comprising: | | | | | Cash and cash equivalents | | **2,917** | 2,768 | | Overdrafts | | – | (101) | | **Cash and cash equivalents at 31 December** | | **2,917** | 2,667 | BAE Systems plc Annual Report 2021 205 Financial statements ## Notes to the ## Group accounts ### 1. Segmental analysis and revenue recognition Revenue and profit recognition Revenue represents income derived from contracts for the provision of goods and services, over time or at a point in time, by the Group tocustomers in exchange for consideration in the ordinary course of the Group’s activities. The Group accounts for revenue in accordance with IFRS 15 Revenue from Contracts with Customers. For most of the Group’s contracts, revenue and associated margin are recognised progressively over time as costs are incurred, and as risks have been mitigated or retired. The ultimate profitability of contracts is based on estimates of revenue and costs, including allowances for technical and other risks which are reliant on the knowledge and experience of the Group’s project managers, engineers, and finance and commercial professionals. Revenue and cost estimates are reviewed and updated at least quarterly, and more frequently as determined by events and circumstances. The Group typically enters into the following types of contracts with customers: – to design, build or create assets uniquely available to the customer such as ships and aircraft; – to service or maintain assets over a period of time; – to give access to software and licences; and – to offer bespoke services to customers, for example through training or the offering of cyber, intelligence and security capabilities. Revenue is recognised against each of these types of contracts in line with the following accounting policies. Performance obligations Upon approval by the parties to a contract, the contract is assessed to identify each promise to transfer either a distinct good or service oraseries of distinct goods or services that are substantially the same and have the same pattern of transfer to the customer. Goods and services are distinct and accounted for as separate performance obligations in the contract if the customer can benefit from them either ontheir own or together with other resources that are readily available to the customer and they are separately identifiable in the contract. The Group provides warranties to its customers to give them assurance that its products and services will function in line with agreed-upon specifications. Warranties are not provided separately and, therefore, do not represent separate performance obligations. A provision for warranties is recognised when the underlying products and services are sold (see note 25 for further detail). Transaction price At the start of the contract, the total transaction price is estimated as the amount of consideration to which the Group expects to be entitled in exchange for transferring the promised goods and services to the customer, excluding sales taxes. Variable consideration, such asvariable price mechanisms, is included based on the expected value or most likely amount only to the extent that it is highly probable that there will not be a reversal in the amount of cumulative revenue recognised. The transaction price does not include estimates of consideration resulting from contract modifications, such as change orders, until they have been approved by the parties to the contract. Thetotal transaction price is allocated to the performance obligations identified in the contract in proportion to their relative stand-alone selling prices. Given the bespoke nature of many of the Group’s products and services, which are designed and/or manufactured under contract to the customer’s individual specifications, there are typically no observable stand-alone selling prices. Instead, stand-alone selling prices are typically estimated based on expected costs plus contract margin consistent with the Group’s pricing principles. Whilst payment terms vary from contract to contract, on many of the Group’s contracts, an element of the transaction price is received inadvance of delivery. When cash is received in advance of goods or services being delivered, a contract liability is recognised. The Group therefore has significant contract liabilities (note 22). The Group’s contracts are not considered to include significant financing components on the basis that there is no difference between the consideration and the cash selling price. UK Ministry of Defence contracting rules prohibit the inclusion of financing in the sales price. Negotiations on competitive international export contracts do not make allowance forthe cash payment profile. Revenue and profit recognition Revenue is recognised as performance obligations are satisfied as control of the goods and services is transferred to the customer. For each performance obligation within a contract, the Group determines whether it is satisfied over time or at a point in time. Performance obligations are satisfied over time if one of the following criteria is satisfied: – the customer simultaneously receives and consumes the benefits provided by the Group’s performance as it performs; – the Group’s performance creates or enhances an asset that the customer controls as the asset is created or enhanced; or – the Group’s performance does not create an asset with an alternative use to the Group and it has an enforceable right to payment forperformance completed to date. The Group has determined that most of its contracts satisfy the over time criteria, either because the customer simultaneously receives andconsumes the benefits provided by the Group’s performance as it is performed (typically services or support contracts, for example inthecase of ongoing maintenance and support of aircraft and flying capability), or the Group’s performance does not create an asset withan alternative use to the Group and it has an enforceable right to payment for performance completed to date (typically development orproduction contracts, such as in the production of ships or aircraft to customers’ unique specifications). For each performance obligation to be recognised over time, the Group recognises revenue using an input method, based on costs incurred in the period. Revenue and attributable margin are calculated by reference to reliable estimates of transaction price and total expected costs, after making suitable allowances for technical and other risks including the impact of COVID-19 and climate change. Revenue and associated margin are therefore recognised progressively as costs are incurred, and as risks have been mitigated or retired. TheGroup has determined that this method appropriately depicts the Group’s performance in transferring control of the goods and services to the customer. 206 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 1. Segmental analysis and revenue recognition continued If the over time criteria for revenue recognition are not met, revenue is recognised at the point in time that control is transferred to the customer, which is usually when legal title passes to the customer and the business has the right to payment, for example, on delivery. When it is probable that total contract costs will exceed total contract revenue, the expected loss is recognised immediately as an expense. Software licences The Group sells software licences either separately or together with other goods and services, including computer hardware and implementation, hosting and support. Revenue recognition in respect of software licences sold as part of a bundle of goods and services isconsidered separately when the licence is determined to be a separate performance obligation. Software licences either represent a right to access the Group’s intellectual property as it exists throughout the licence period or a right to use the Group’s intellectual property as it exists at the point in time atwhich the licence is granted. Revenue in respect of right to access licences is recognised over the licence term or, in relation to perpetual licences, over the related customer relationship and revenue in respect of right to use licences is recognised on delivery of the software to the customer or, if the customer chooses not to access and take delivery of the software, on expiry of the licence arrangement. A software licence is considered to be a right to access the Group’s intellectual property as it exists throughout the licence period if all of the following criteria are satisfied: – the contract requires, or the customer reasonably expects, that the Group will undertake activities that significantly affect the intellectual property; and – the licence directly exposes the customer to the effects of those activities; and – those activities do not result in the transfer of a good or service to the customer. Contract modifications The Group’s contracts are often amended for changes in customers’ requirements and specifications. A contract modification exists when the parties to the contract approve a modification that either changes existing or creates new enforceable rights and obligations. The effect of a contract modification on the transaction price and the Group’s measure of progress towards the satisfaction of the performance obligation to which it relates is recognised in one of the following ways: 1. prospectively, as an additional, separate contract; 2. prospectively, as a termination of the existing contract and creation of a new contract; or 3. as part of the original contract using a cumulative catch-up. The majority of the Group’s contract modifications are treated under either 1 (for example, the requirement for additional distinct goods or services) or 3 (for example, a change in the specification of the distinct goods or services for a partially completed contract), although the facts and circumstances of any contract modification are considered individually as the types of modifications will vary contract-by-contract and may result in different accounting outcomes. Costs to obtain a contract The Group expenses pre-contract bidding costs which are incurred regardless of whether a contract is awarded. The Group does not typically incur costs to obtain contracts that it would not have incurred had the contracts not been awarded, such as sales commission. Costs to fulfil a contract Contract fulfilment costs in respect of over time contracts are expensed as incurred. Contract fulfilment costs in respect of point in time contracts are accounted for under IAS 2 Inventories. Reporting segments The Group has the following six reporting segments: – Electronic Systems comprises the US- and UK-based electronics activities, including electronic warfare systems, navigation systems, electro-optical sensors, military and commercial digital engine and flight controls, precision guidance and seeker solutions, next-generation military communications systems and data links, persistent surveillance capabilities, space electronics and electric drive propulsion systems; – Platforms & Services (US), with operations in the US, UK and Sweden, manufactures and upgrades combat vehicles, weapons and munitions, and delivers services and sustainment activities, including naval ship repair, and the management and operation of government-owned munitions facilities; – Air comprises the Group’s UK-based air activities for European and International Markets, and US Programmes, and its businesses inSaudiArabia and Australia, together with its 37.5% interest in the European MBDA joint venture; – Maritime comprises the Group’sUK-based maritime andland activities; – Cyber & Intelligence comprises the US-based Intelligence & Security business and UK-headquartered Applied Intelligence business, andcovers the Group’s cyber security, secure government, and commercial financial security activities; and – HQ comprises the Group’s head office and UK-based shared services activities, together with a 49% interest in Air Astana. The Board (the chief operating decision maker as defined by IFRS 8 Operating Segments) monitors the results of these reporting segments toassess performance and make decisions about the allocation of resources. Segmental performance is evaluated based on Key Performance 1 1 Indicators – sales (see page 208) and underlying EBIT (see page 209). Finance costs and taxation expense are managed on a Group basis. 1. Sales and underlying EBIT are alternative performance measures defined in the Financial glossary on page 78. BAE Systems plc Annual Report 2021 207 Financial statements ## Notes to the Group accounts conti nued ### 1. Segmental analysis and revenue recognition continued 1 Sales and revenue by reporting segment Deduct Add Share of revenue Subsidiaries’ revenue of equity accounted fromequity accounted 1 | | Sales | | investments | | investments Revenue | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | | 2021 | | 2020 | 2021 | 2020 | 2021 | 2020 | 2021 | 2020 | | | £m | £m | £m | £m | £m | £m | £m | £m | Electronic Systems 4,491 4,557 (54) (45) 54 45 4,491 4,557 Platforms & Services (US) 3,395 3,503 (79) (108) 2 4 3,318 3,399 Air 8,321 7,910 (2,505) (2,289) 1,097 972 6,913 6,593 Maritime 3,416 3,257 (79) (65) 3 3 3,340 3,195 Cyber & Intelligence 1,752 1,812 – – – – 1,752 1,812 HQ 307 190 (271) (151) – 1 36 40 21,682 21,229 (2,988) (2,658) 1,156 1,025 19,850 19,596 Intra-group sales/revenue (372) (367) 9 6 34 42 (329) (319) 21,310 20,862 (2,979) (2,652) 1,190 1,067 19,521 19,277 Revenue from | Intra-group revenue | | | externalcustomers | | | | --- | --- | --- | --- | --- | --- | | | 2021 | 2020 | | 2021 | 2020 | | | £m | £m | | £m | £m | Electronic Systems 101 95 4,390 4,462 Platforms & Services (US) 34 32 3,284 3,367 Air 16 13 6,897 6,580 Maritime 98 89 3,242 3,106 Cyber & Intelligence 68 81 1,684 1,731 HQ 12 9 24 31 329 319 19,521 19,277 1 Sales and revenue by customer location 1 | | Sales | | Revenue | | | --- | --- | --- | --- | --- | | 2021 | | 2020 | 2021 | 2020 | | | £m | £m | £m | £m | UK 4,201 3,965 3,935 3,751 Rest of Europe 2,435 2,017 1,502 1,235 US 9,109 9,315 9,108 9,309 Canada 141 114 141 114 Saudi Arabia 2,497 2,716 2,476 2,631 Qatar 1,267 1,104 1,014 913 Rest of Middle East 326 335 275 309 Australia 763 665 762 664 Rest of Asia and Pacific 449 578 285 332 Africa, and Central and South America 122 53 23 19 21,310 20,862 19,521 19,277 1. Sales is an alternative performance measure defined in the Financial glossary on page 78, it is presented here as our internal measure of segmental performance, to provide additional information on performance to the user, and to reconcile to the equivalent IFRS measure. 208 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 1. Segmental analysis and revenue recognition continued Revenue from external customers by domain 2021 2020 Air Maritime Land Cyber Total Air Maritime Land Cyber Total £m £m £m £m £m £m £m £m £m £m Electronic Systems 3,846 87 457 – 4,390 3,884 105 473 – 4,462 Platforms & Services (US) 37 1,061 2,186 – 3,284 43 1,180 2,14 4 – 3,367 Air 6,252 454 191 – 6,897 6,007 396 177 – 6,580 Maritime 2 3,015 225 – 3,242 – 2,879 227 – 3,106 Cyber & Intelligence 238 390 55 1,001 1,684 240 414 77 1,000 1,731 HQ 14 2 8 – 24 31 – – – 31 10,389 5,009 3,122 1,001 19,521 10,205 4,974 3,098 1,000 19,277 Revenue by major customer Revenue from the Group’s three principal customers, which individually represent over 10% of total revenue, is as follows: 2021 2020 £m £m US Department of Defense 7,008 6,899 UK Ministry of Defence 4,185 4,030 Kingdom of Saudi Arabia Ministry of Defence and Aviation 2,380 2,559 Revenue from the UK Ministry of Defence and the US Department of Defense was generated by the five reporting segments, excluding HQ. Revenue from the Kingdom of Saudi Arabia Ministry of Defence and Aviation was generated by the Air and Maritime reporting segments. Operating profit/(loss) by reporting segment Amortisation of programme, customer- | | | | | | | related and other intangible | | | | Financial and | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | | | | assets, and impairment | | | taxationexpense ofequity | | | Operating | | | | | 1,2 | | | | | | 2 | | | | | | | Underlying EBIT | | | Non-recurring items | | | | ofintangibles | | accounted investments | | | profit /(loss) | | | | 2021 | 2020 | | 2021 | 2020 | | 2021 | 2020 | | 2021 | 2020 | 2021 | 2020 | | | £m | £m | | £m | £m | | £m | £m | | £m | £m | £m | £m | Electronic Systems 766 674 33 15 (84) (40) – – 715 649 Platforms & Services (US) 259 190 – 7 (1) (1) (6) (13) 252 183 Air 856 909 132 – (13) – (45) (48) 930 861 Maritime 288 279 6 – (2) (4) (3) (3) 289 272 Cyber & Intelligence 156 135 (3) 3 (1) – – – 152 138 HQ (120) (150) 182 (6) – (1) (11) (16) 51 (173) 2,205 2,037 350 19 (101) (46) (65) (80) 2,389 1,930 Net finance costs (279) (334) Profit before taxation 2,110 1,596 Taxation expense (198) (225) Profit for the year 1,912 1,371 1. Underlying EBIT is an alternative performance measure defined in the Financial glossary on page 78, it is presented here as our internal measure of segmental performance, to provide additional information on performance to the user, and to reconcile to the equivalent IFRS measure. 2. With effect from 2021, the Group adopted the underlying EBIT profitability measure, to include charges relating to software and development intangible amortisation, inplace of the previously reported underlying EBITA measure, as it reflects a better measure of underlying profitability, by including amortisation of software and development intangibles as these charges are viewed as a recurring operational cost for the business. The underlying performance for 2020 of segments and the Group has been re-presented on this new basis. BAE Systems plc Annual Report 2021 209 Financial statements ## Notes to the Group accounts conti nued ### 1. Segmental analysis and revenue recognition continued Share of results of equity accounted investments within reporting segments Amortisation of programme, customer- related and other intangible | | | | | | | assets, and impairment | | | Financial and | | Share of results ofequity | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | 1,2 | | | | | | 2 | | | | | | | Underlying EBIT | | | Non-recurring items | | | | ofintangibles | | taxationexpense | | accounted investments | | | | | 2021 | 2020 | | 2021 | 2020 | | 2021 | 2020 | 2021 | 2020 | | 2021 | 2020 | | | £m | £m | | £m | £m | | £m | £m | £m | £m | | £m | £m | Electronic Systems 4 2 – – – – – – 4 2 Platforms & Services (US) 9 15 – – – – (6) (13) 3 2 Air 151 149 – – – – (45) (48) 106 101 Maritime 11 10 – – – – (3) (3) 8 7 HQ 29 (27) – – – – (11) (16) 18 (43) 204 149 – – – – (65) (80) 139 69 1. Underlying EBIT is an alternative performance measure defined in the Financial glossary on page 78, it is presented here as our internal measure of segmental performance, to provide additional information on performance to the user, and to reconcile to the equivalent IFRS measure. 2. With effect from 2021, the Group adopted the underlying EBIT profitability measure, to include charges relating to software and development intangible amortisation, inplace of the previously reported underlying EBITA measure, as it reflects a better measure of underlying profitability, by including amortisation of software and development intangibles as these charges are viewed as a recurring operational cost for the business. The underlying performance for 2020 of segments and the Group has been re-presented on this new basis. Non-recurring items 2021 Non-recurring items in 2021 reflect a gain of £350m, comprising a gain in HQ on the sale of the Filton and Broughton sites (£182m), gains on disposal of Advanced Electronics Company in the Air sector (£132m, of which £63m is attributable to non-controlling interests – see note 19), and on disposal of a business in our Electronic Systems segment (£26m), and a net £10m gain relating to historical and current year acquisitions. 2020 Non-recurring items in 2020 comprises a settlement gain on the US pension annuity buy-out of £64m, partially offset by acquisition-related costs of £20m, a £13m impairment charge relating to Platforms & Services (US)’s legacy Commercial Shipbuilding business which the business exited in 2018, a Guaranteed Minimum Pension equalisation charge of £7m and a loss on business disposals of £5m. Performance obligations 1 | The Group’s order book | , reconciled to order backlog as defined by the Group, is shown below. | | | | --- | --- | --- | --- | | | | 2021 | 2020 | | | | £bn | £bn | 2 Order backlog as defined by the Group 44.0 45.2 Deduct Unfunded order backlog (2.3) (2.2) 2 Deduct Share of order backlog of equity accounted investments (10.1) (10.9) 2 Add Order backlog in respect of orders from equity accounted investments 3.9 4.2 1 Order book 35.5 36.3 1. Order book represents the transaction price allocated to unsatisfied and partially satisfied performance obligations as defined by IFRS 15 Revenue from Contracts withCustomers. 2. Order backlog is an alternative performance measure defined in the Financial glossary on page 78, it is presented here as our internal measure of segmental performance,to provide additional information on performance to the user, and to reconcile to the equivalent IFRS measure. The Group expects that approximately 41% (2020 44%) of the order book will be recognised as revenue during the next year, withthe remainder largely recognised over the following four (2020 four) years. For each performance obligation to be recognised over time, the Group recognises revenue using an input method, based on costs incurred intheperiod. Revenue and attributable margin are calculated by reference to reliable estimates of transaction price and total expected costs,aftermaking suitable allowances for technical and other risks. Revenue and associated margin are therefore recognised progressively ascosts areincurred, and as risks have been mitigated or retired. The Group has determined that this method appropriately depicts the Group’sperformance in transferring control of the goods and services to the customer. Accordingly, revenue of £0.3bn (2020 £0.3bn) was recognised duringtheyear in respect of performance obligations satisfied or partially satisfied in previous periods. 210 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 2. Operating costs ### Research and development The Group undertakes research and development activities either on its own behalf or on behalf of customers. Group-funded expenditure on research, and on development activities not meeting the conditions for capitalisation, is written off as incurred and charged to the income statement. Customer-funded expenditure on research and development activities is recognised in the income statement in accordance with the Group's revenue recognition policy. | | 2021 £m | 2020 £m | | --- | --- | --- | | Raw materials, subcontracts and other bought-in items used | 6,934 | 6,689 | | Change in inventories of finished goods and work-in-progress | 27 | 88 | | Staff costs (note 3) | 6,667 | 6,687 | | Guaranteed Minimum Pension equalisation charge | – | 7 | | Depreciation | 513 | 543 | | Amortisation | 188 | 128 | | Impairment – property, plant and equipment (note 9), and right-of-use assets (note 10) | 4 | – | | Impairment – intangible assets (note 8) | 15 | 4 | | Impairment – inventory write down | – | 13 | | Acquisition-related costs | 3 | 20 | | Loss on disposal of property, plant and equipment, and investment property | 2 | – | | Loss in respect of held for sale assets and business disposals | – | 5 | | Other operating charges | 3,390 | 3,502 | | **Operating costs** | **17,743** | **17,686** | Operating costs includes research and development expenditure of £251m (2020 £228m) funded by the Group. Development investment of £4m (2020 £8m) was capitalised during the year (see note 8). ### Fees payable to the Company's auditor and its associates included in operating costs | | 2021 | | | 2020 | | | | --- | --- | --- | --- | --- | --- | --- | | | UK £'000 | Overseas £'000 | Total £'000 | UK £'000 | Overseas £'000 | Total £'000 | | **Fees payable to the Company's auditor for the audit of the Company's annual accounts** | 2,349 | – | 2,349 | 2,555 | – | 2,555 | | **Fees payable to the Company's auditor and its associates for other services to the Group:** | | | | | | | | The audit of the Company's subsidiaries | 4,154 | 5,561 | 9,715 | 3,393 | 5,772 | 9,165 | | **Total audit fees** | **6,503** | **5,561** | **12,064** | **5,948** | **5,772** | **11,720** | | Audit-related assurance services^{1,2} | 632 | 3 | 635 | 1,137 | 70 | 1,207 | | Other non-audit services | – | – | – | 25 | 7 | 32 | | **Total non-audit fees** | **632** | **3** | **635** | **1,162** | **77** | **1,239** | | **Total fees payable to the Company's auditor and its associates** | **7,135** | **5,564** | **12,699** | **7,110** | **5,849** | **12,959** | 1. Audit-related assurance services principally comprises fees in respect of the review of the Group's Half-yearly Report. 2. In addition to the amounts shown above, the auditor received fees of £453k (2020 £646k) for the audit of the BAE Systems pension schemes in the US. BAE Systems plc Annual Report 2021 211 Financial statements ## Notes to the Group accounts conti nued ### 3. Employees The weekly average and year-end numbers of employees, excluding those in equity accounted investments, were as follows: Weekly average At year end | | 2021 | 2020 | | 2021 | | 2020 | | --- | --- | --- | --- | --- | --- | --- | | Number | | Number | Number | | Number | | | | ’000 | ’000 | | ’000 | | ’000 | Electronic Systems 16 16 16 16 Platforms & Services (US) 12 12 12 12 Air 24 24 24 24 Maritime 18 16 18 17 Cyber & Intelligence 10 10 10 10 HQ 2 2 2 2 82 80 82 81 The aggregate staff costs of Group employees, excluding employees of equity accounted investments, were as follows: 2021 2020 £m £m 1 Wages and salaries 5,643 5,727 Social security costs 428 426 Share-based payments (note 31) 92 74 Pension costs – defined contribution plans (note 24) 246 242 Pension costs – defined benefit plans (note 24) 233 206 Other post-employment benefit costs (note 24) 25 12 6,667 6,687 1. After excluding the impact of exchange translation, wages and salaries increased by approximately 2.5% per employee in 2021. ### 4. Other income Leases Lease income under operating leases is recognised in the income statement on a straight-line basis over the lease term. 2021 2020 £m £m Research and development expenditure credits 16 28 Operating lease income from investment property (note 10) 9 30 Operating lease income from subleasing right-of-use assets (note 10) 1 – Profit on disposal of businesses 158 – Profit on disposal of property, plant and equipment – 12 Profit on disposal of investment property 194 13 Gain on sale and leaseback – 21 Gain on revaluation of other investments – 6 Management recharges to equity accounted investments (note 32) 19 19 Royalties 17 20 Settlement gain on transfer of US pension liabilities (note 24) – 64 Gain on historical acquisition 13 – 1 Other 45 57 Other income 472 270 1. Includes £15m (2020 £15m) for capital spend recovery in respect of Saudi Arabia Industrial Participation investments and a £9m (2020 £9m) recovery of site development costs fortheDreadnought programme in Barrow. 212 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 5. Net finance costs ### Interest income and borrowing costs Interest income and borrowing costs are recognised in the income statement in the period in which they are incurred. | | 2021 £m | 2020 £m | | --- | --- | --- | | Interest income on cash and other financial instruments | 29 | 16 | | Interest income on finance lease receivables (note 10) | 1 | 1 | | Net present value adjustments | 2 | – | | Financial income | 32 | 17 | | Interest expense on bonds and other financial instruments | (206) | (196) | | Facility fees | (3) | (4) | | Interest expense on lease liabilities (note 10) | (43) | (44) | | Net present value adjustments on provisions and other payables | – | (8) | | Net interest expense on post-employment benefit obligations (note 24) | (65) | (68) | | Loss on remeasurement of financial instruments at fair value through profit or loss^{1,2} | (29) | (158) | | Foreign exchange gains^{2,3} | 35 | 127 | | Financial expense | (311) | (351) | | **Net finance costs** | **(279)** | **(334)** | 1. Comprises gains and losses on derivative financial instruments, including derivative instruments to manage the Group's exposure to interest rate fluctuations on external borrowings and exchange rate fluctuations on balances with the Group's subsidiaries and equity accounted investments. 2. The net gain or loss on remeasurement of financial instruments at fair value through profit or loss and the net gain or loss on foreign exchange are presented within finance costs as the gains and losses relate to the same underlying transactions. 3. The foreign exchange gains primarily reflect exchange rate movements on US dollar-denominated borrowings. ### Additional analysis | | 2021 £m | 2020 £m | | --- | --- | --- | | Net finance costs: | | | | Group | (279) | (334) | | Share of equity accounted investments | (27) | (32) | | **Total of Group and equity accounted investments' finance costs** | **(306)** | **(366)** | Analysed as: | Underlying net interest expense^{1}: | | | | --- | --- | --- | | Group | (220) | (235) | | Share of equity accounted investments | (21) | (20) | | | **(241)** | **(255)** | Other: | Group: | | | | --- | --- | --- | | Net interest expense on post-employment benefit obligations | (65) | (68) | | Fair value and foreign exchange adjustments on financial instruments and investments | 6 | (31) | | Share of equity accounted investments: | | | | Net interest expense on post-employment benefit obligations | (2) | (2) | | Fair value and foreign exchange adjustments on financial instruments and investments | (4) | (10) | | **Total of Group and equity accounted investments' finance costs** | **(306)** | **(366)** | 1. Underlying net interest expense is an alternative performance measure defined in the Financial glossary on page 78, it is presented here to provide additional information on performance to the user, and to reconcile to the equivalent IFRS measure. BAE Systems plc Annual Report 2021 213 Financial statements # Notes to the Group accounts continued # 6. Taxation expense Income tax expense comprises current and deferred tax. Current and deferred tax is recognised in profit or loss except to the extent that it relates to a business combination or items recognised directly in equity or other comprehensive income. # Current tax Current tax is the expected tax payable or receivable on the taxable profit or loss for the year, using tax rates enacted or substantively enacted at the reporting date, and any adjustment to tax payable in respect of previous years. # Deferred tax Deferred tax is recognised in respect of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for taxation purposes. Deferred tax is not recognised for temporary differences: - on the initial recognition of assets or liabilities in a transaction that is not a business combination and that affects neither accounting nor taxable profit or loss; - related to investments in subsidiaries and equity accounted investments to the extent that it is probable that they will not reverse in the foreseeable future; and - arising on the initial recognition of goodwill. Deferred tax is measured at the tax rates that are expected to be applied to temporary differences when they reverse, based on the laws that have been enacted or substantively enacted by the reporting date. # Taxation expense | | 2021 £m | 2020 £m | | --- | --- | --- | | **Current taxation** | | | | UK: | | | | Current year | (114) | (115) | | Adjustments in respect of prior years | 96 | – | | | (18) | (115) | | Overseas: | | | | Current year | (204) | (171) | | Adjustments in respect of prior years | 5 | 53 | | | (199) | (118) | | **Total current taxation** | **(217)** | **(233)** | | **Deferred taxation** | | | | UK: | | | | Origination and reversal of temporary differences | 24 | (1) | | Adjustments in respect of prior years | – | 1 | | Tax rate adjustment | 10 | 4 | | | 34 | 4 | | Overseas: | | | | Origination and reversal of temporary differences | (23) | (2) | | Adjustments in respect of prior years | 8 | (10) | | Tax rate adjustment | – | 16 | | | (15) | 4 | | **Total deferred taxation** | **19** | **8** | | **Taxation expense** | **(198)** | **(225)** | | UK | 16 | (111) | | Overseas | (214) | (114) | | **Taxation expense** | **(198)** | **(225)** | 214 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 6. Taxation expense continued ### Reconciliation of taxation expense The following table reconciles the theoretical income tax expense, using the UK corporation tax rate, to the reported tax expense. The reconciling items represent, besides the impact of tax rate differentials and changes, non-taxable benefits or non-deductible expenses arising from differences between the local tax base and the reported financial statements. | | 2021 £m | 2020 £m | | --- | --- | --- | | **Profit before taxation** | **2,110** | **1,596** | | UK corporation tax rate | 19% | 19% | | Expected income tax expense | (401) | (303) | | Effect of tax rates in foreign jurisdictions, including US state taxes | (56) | (45) | | Expenses not tax effected | (5) | (6) | | Income not subject to tax | 70 | 54 | | Research and development tax credits | 23 | 12 | | Non-recurring items | 48 | (1) | | Chargeable gains | (3) | (1) | | Utilisation of previously unrecognised tax losses | 2 | 1 | | Current year losses not tax effected | – | (3) | | Adjustments in respect of prior years | 109 | 44 | | Adjustments in respect of equity accounted investments | 26 | 13 | | Tax rate adjustment | 10 | 20 | | Other | (21) | (10) | | **Taxation expense** | **(198)** | **(225)** | ### Calculation of the underlying effective tax rate | | 2021 £m | 2020 £m | | --- | --- | --- | | Profit before taxation | 2,110 | 1,596 | | Add back: Taxation expense of equity accounted investments | 38 | 48 | | (Deduct): Taxable non-recurring items | (347) | – | | (Deduct)/add back: Non-taxable non-recurring items | (3) | 4 | | **Adjusted profit before taxation** | **1,798** | **1,648** | | Taxation expense | (198) | (225) | | Taxation expense of equity accounted investments | (38) | (48) | | Exclude: One-off tax benefit | (94) | – | | Exclude: Taxation adjustments in respect of taxable non-recurring items | 19 | – | | Exclude: Tax rate adjustment | (10) | – | | **Adjusted taxation expense (including equity accounted investments)** | **(321)** | **(273)** | | **Underlying effective tax rate^{1}** | **18%** | **17%** | 1. Underlying effective tax rate is an alternative performance measure defined in the Financial glossary on page 78. The one-off tax benefit of £94m in 2021 is in respect of agreements reached regarding the exposure arising from the April 2019 European Commission decision regarding the UK's Controlled Foreign Company regime. The Group's underlying effective tax rate is sensitive to the geographic mix of profits and may be impacted when multiple territories implement the Organisation for Economic Co-operation and Development's Base Erosion and Profit Shifting (BEPS) 2 model guidance. It is not currently possible to accurately assess the impact of the model rules, but we will continue to monitor their progress as they proceed towards statutory enactment. BAE Systems plc Annual Report 2021 215 Financial statements ## Notes to the Group accounts continued ### 6. Taxation expense continued Tax recognised in other comprehensive income | | 2021 | | | 2020 | | | | --- | --- | --- | --- | --- | --- | --- | | | Before tax £m | Tax (expense)/ benefit £m | Net of tax £m | Before tax £m | Tax benefit/ (expense) £m | Net of tax £m | | **Items that will not be reclassified to the income statement:** | | | | | | | | Consolidated: | | | | | | | | Remeasurements on post-employment benefit schemes | 2,451 | (482) | 1,969 | (1,361) | 256 | (1,105) | | Tax rate adjustment | – | 88 | 88 | – | 74 | 74 | | Share of the other comprehensive income of associates and joint ventures accounted for using the equity method | 85 | (21) | 64 | (71) | 16 | (55) | | **Items that may be reclassified to the income statement:** | | | | | | | | Consolidated: | | | | | | | | Currency translation on foreign currency net investments | 32 | – | 32 | (224) | – | (224) | | Reclassification of cumulative currency translation reserve on disposal of subsidiary | (9) | – | (9) | (35) | – | (35) | | Fair value gain arising on hedging instruments during the period | 11 | (2) | 9 | 46 | (9) | 37 | | Cumulative fair value (gain)/loss on hedging instruments reclassified to the income statement | (32) | 6 | (26) | 42 | (7) | 35 | | Share of the other comprehensive income of associates and joint ventures accounted for using the equity method | (1) | (3) | (4) | (2) | (1) | (3) | | | **2,537** | **(414)** | **2,123** | **(1,605)** | **329** | **(1,276)** | | | | | | | | | | | 2021 | | | 2020 | | | | | Other reserves £m | Retained earnings £m | Total £m | Other reserves £m | Retained earnings £m | Total £m | | **Current tax** | | | | | | | | Consolidated: | | | | | | | | Remeasurements on post-employment benefit schemes | – | 61 | 61 | – | 83 | 83 | | | – | 61 | 61 | – | 83 | 83 | | **Deferred tax** | | | | | | | | Consolidated: | | | | | | | | Remeasurements on post-employment benefit schemes | – | (543) | (543) | – | 173 | 173 | | Tax rate adjustment | – | 88 | 88 | – | 74 | 74 | | Fair value gain arising on hedging instruments during the period | (2) | – | (2) | (9) | – | (9) | | Cumulative fair value loss/(gain) on hedging instruments reclassified to the income statement | 6 | – | 6 | (7) | – | (7) | | Share of the other comprehensive income of associates and joint ventures accounted for using the equity method | (3) | (21) | (24) | (1) | 16 | 15 | | | **1** | **(476)** | **(475)** | **(17)** | **263** | **246** | | **Tax on other comprehensive income** | **1** | **(415)** | **(414)** | **(17)** | **346** | **329** | 216 BAE Systems plc Annual Report 2021 Strategic report. Governance. Financial statements. ## 7. Earnings per share | | 2021 | | | 2020 | | | | --- | --- | --- | --- | --- | --- | --- | | | £m | Basic pence per share | Diluted pence per share | £m | Basic pence per share | Diluted pence per share | | Profit for the year attributable to equity shareholders | **1,758** | **55.2** | **54.7** | 1,299 | 40.7 | 40.5 | | Add back/(deduct): | | | | | | | | Amortisation of programme, customer-related and other intangible assets, and impairment of intangibles, post tax^{1} | **84** | | | 38 | | | | Net interest expense on post-employment benefit obligations, post tax^{1} | **55** | | | 58 | | | | Fair value and foreign exchange adjustments on financial instruments and investments, post tax^{1} | **(1)** | | | 34 | | | | Non-recurring items attributable to shareholders, post tax^{2} | **(279)** | | | (15) | | | | **Underlying earnings^{3}, post tax** | **1,617** | **50.7** | **50.4** | 1,414 | 44.3 | 44.0 | | One-off tax benefit | **(94)** | | | – | | | | **Underlying earnings^{3}, excluding one-off tax benefit** | **1,523** | **47.8** | **47.4** | 1,414 | 44.3 | 44.0 | | | | Millions | Millions | | Millions | Millions | | Weighted average number of shares used in calculating basic earnings per share | | **3,187** | **3,187** | | 3,191 | 3,191 | | Incremental shares in respect of employee share schemes | | | **24** | | | 19 | | Weighted average number of shares used in calculating diluted earnings per share | | | **3,211** | | | 3,210 | 1. The tax impact is calculated using the underlying effective tax rate of 18% (2020 17%). The calculation of the underlying effective tax rate is shown in note 6. 2. In 2021, £63m of the gain on disposal of AEC was attributable to non-controlling interest. Therefore, only the gain attributable to shareholders has been removed in calculating the underlying earnings attributable to shareholders. See note 19 for more details. The tax on non-recurring items has been determined using the actual tax due on those items, see note 6 for details. 3. Underlying earnings per share is an alternative performance measure defined in the Financial glossary on page 78, it is presented here to provide additional information on performance to the user, and to reconcile to the equivalent IFRS measure. With effect from 2021, the Group adopted the underlying EBIT profitability measure, to include charges relating to software and development intangible amortisation, in place of the previously reported underlying EBITA measure, as it reflects a better measure of underlying profitability, by including amortisation of software and development intangibles as these charges are viewed as a recurring operational cost for the business. Underlying earnings per share has also been recalculated to ensure consistency with the updated operational profitability measure. The underlying performance for 2020 of segments and the Group has been re-presented on this new basis. ## 8. Intangible assets Intangible assets are carried at cost or valuation, less accumulated amortisation and impairment losses. ### Cost or valuation #### Goodwill Under the acquisition method for business combinations, goodwill is the acquisition-date fair value of the consideration transferred, less the net of the acquisition-date fair values of the identifiable assets acquired and liabilities assumed. Goodwill on acquisitions of subsidiaries is included in intangible assets. Goodwill on acquisitions of joint ventures and associates is included in the carrying value of equity accounted investments. Gains and losses on the disposal of an entity include the carrying amount of goodwill relating to the entity sold. #### Software Software includes: - Computer software licences acquired for use within the Group are capitalised as an intangible asset on the basis of the costs incurred to acquire and bring to use the specific software; and - Software development costs that are directly associated with the production of identifiable and unique software products controlled by the Group, and that will probably generate economic benefits exceeding costs beyond one year, are recognised as intangible assets. Group-funded expenditure associated with enhancing or maintaining computer software programs for sale is recognised as an expense as incurred. #### Development costs Development costs funded by the Group on activities applied to a plan or design for the production of new or substantially improved products are capitalised as an internally-generated intangible asset if certain conditions are met. The costs capitalised include materials, direct labour and related overheads. #### Programme and customer-related Intangible assets recognised by the Group include those relating to ongoing programmes within businesses acquired, mainly in respect of customer relationships and order backlog. These assets are initially recognised at their fair value at the acquisition date. #### Other Other intangible assets includes patents, trademarks and licences. BAE Systems plc Annual Report 2021 217 Financial statements ## Notes to the Group accounts conti nued ### 8. Intangible assets continued Amortisation Goodwill is not amortised, but is tested annually for impairment, and carried at cost less accumulated impairment losses. Amortisation onintangible assets, excluding goodwill, is charged to the income statement on a straight-line basis over their estimated useful lives. For programme-related intangibles, amortisation is set on a programme-by-programme basis over the life of the individual programme. Amortisation for customer-related intangibles is also set on an individual basis. The estimated useful lives are as follows: Software up to 5 years Development costs up to 10 years Programme and customer-related up to 15 years Other up to 20 years The Group has no indefinite-life intangible assets other than goodwill. Impairment of intangible assets, property, plant and equipment, right-of-use assets, investment property and equity accountedinvestments The carrying amounts of the Group’s intangible assets (excluding goodwill), property, plant and equipment, right-of-use assets, investment property and equity accounted investments are reviewed at each balance sheet date to determine whether there is any indication of impairment as required by IAS 36 Impairment of Assets. If any such indication exists, the asset’s recoverable amount is estimated. For goodwill and intangible assets that are not yet available for use, impairment testing is performed annually. Goodwill is tested annually for impairment. For the purposes of impairment testing, goodwill is allocated to Cash-Generating Units (CGUs) on a consistent basis. The impairment calculations require the use of estimates of the future profitability and cash-generating ability of the CGU to determine its value in use based the Group’s five-year Integrated Business Plan and the pre-tax discount rate used in discounting these projected cash flows. An impairment loss is recognised whenever the carrying amount of an asset or its CGU exceeds its recoverable amount, which is the higher of its value in use, and its fair value less cost of disposal. The recoverable amount is the greater of fair value less costs to sell and value in use. In assessing value in use, the estimated future cash flows are discounted to their present value using an appropriate pre-tax discount rate. For an asset that does not generate largely independent cash flows, the recoverable amount is determined for the CGU to which the asset belongs. Impairment losses are recognised in the income statement. An impairment loss in respect of goodwill is not reversed. An impairment loss inrespect of other intangible assets, property, plant and equipment, investment property and equity accounted investments is reversed if the subsequent increase in recoverable amount can be related objectively to an event occurring after the impairment loss was recognised orif there has been a change in the estimate used to determine the recoverable amount. An impairment loss is reversed only to the extent that the asset’s carrying amount does not exceed the carrying amount that would have been determined, net of depreciation or amortisation, if no impairment loss had been recognised. 218 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 8. Intangible assets continued | | Goodwill £m | Software £m | Development costs £m | Programme and customer-related £m | Other £m | Total £m | | --- | --- | --- | --- | --- | --- | --- | | **Cost or valuation** | | | | | | | | At 1 January 2020 | 14,740 | 743 | 106 | 167 | 38 | 15,794 | | Additions: | | | | | | | | Acquired separately | – | 62 | – | – | – | 62 | | Internally developed | – | 22 | 8 | – | – | 30 | | Business acquisitions (note 34) | 1,062 | – | – | 500 | 66 | 1,628 | | Disposals^{1} | – | (6) | – | (109) | – | (115) | | Transfer from property, plant and equipment | – | 16 | – | – | – | 16 | | Foreign exchange adjustments | (247) | – | (3) | (16) | (5) | (271) | | At 31 December 2020 | 15,555 | 837 | 111 | 542 | 99 | 17,144 | | Additions: | | | | | | | | Acquired separately | – | 90 | – | – | – | 90 | | Internally developed | – | 3 | 4 | – | – | 7 | | Business acquisitions (note 34) | 20 | 2 | – | 6 | 9 | 37 | | Disposals^{1} | – | (38) | – | – | – | (38) | | Transfer from property, plant and equipment | – | 1 | – | – | – | 1 | | Foreign exchange adjustments | 49 | (2) | 1 | 3 | 2 | 53 | | **At 31 December 2021** | **15,624** | **893** | **116** | **551** | **110** | **17,294** | | **Amortisation and impairment** | | | | | | | | At 1 January 2020 | 4,756 | 404 | 72 | 163 | 28 | 5,423 | | Amortisation^{2} | – | 86 | 5 | 36 | 6 | 133 | | Impairment charge | – | 4 | – | – | – | 4 | | Disposals^{1} | – | (6) | – | (109) | – | (115) | | Foreign exchange adjustments | (47) | (1) | (2) | 4 | – | (46) | | At 31 December 2020 | 4,709 | 487 | 75 | 94 | 34 | 5,399 | | Amortisation^{2} | – | 104 | 3 | 75 | 11 | 193 | | Impairment charge | – | 15 | – | – | – | 15 | | Disposals^{1} | – | (38) | – | – | – | (38) | | Foreign exchange adjustments | 5 | 1 | 1 | 1 | 1 | 9 | | **At 31 December 2021** | **4,714** | **569** | **79** | **170** | **46** | **5,578** | | **Net book value** | | | | | | | | **At 31 December 2021** | **10,910** | **324** | **37** | **381** | **64** | **11,716** | | At 31 December 2020 | 10,846 | 350 | 36 | 448 | 65 | 11,745 | | At 1 January 2020 | 9,984 | 339 | 34 | 4 | 10 | 10,371 | 1. Includes intangible assets with nil net book value no longer used by the Group. 2. Amortisation of £193m (2020 £133m) includes £188m (2020 £128m) charged to the income statement as an amortisation expense and £5m (2020 £5m) recoverable on customer contracts. BAE Systems plc Annual Report 2021 219 Financial statements ## Notes to the Group accounts conti nued ### 8. Intangible assets continued Impairment testing The recoverable amount of the Group’s goodwill is based on value in use estimated using risk-adjusted future cash flow projections from the five-year Integrated Business Plan (IBP) and a terminal value based on the projections for the final year of that plan, with growth rate assumptions of 2% applied for each significant Cash-Generating Unit (CGU). The IBP process includes the use of historical experience, available government spending data and the Group’s order backlog, as well as the impact of evolving issues such as COVID-19, climate change and Brexit. Pre-tax discount rates, derived from the Group’s post-tax weighted average cost of capital and adjusted for risks specific to the market in which the CGUoperates, have been used in discounting these projected risk-adjusted cash flows. Significant CGUs Goodwill allocated to CGUs which are largely dependent on US government spending on defence, aerospace and security represents £8.9bn (2020£8.8bn) of the Group’s total goodwill balance. The Group monitors changes in defence budgets on an ongoing basis. Allocated goodwill Pre-tax discount rate | | 2021 | 2020 | 2021 | 2020 | | --- | --- | --- | --- | --- | | Cash-Generating Unit Key assumptions | £bn | £bn | % | % | | Electronic Systems Continued demand from the US government for | 4.9 4.8 9 9 | | | | electronicwarfare systems (where the business has aleadership position), other technology-based solutions andgrowth in the commercial avionics market Platforms & Services (US) Continued demand in the Group’s principal markets for 3.3 3.3 9 9 existing and successor military tracked vehicles, naval guns, missile launchers, artillery systems, munitions, upgrade programmes and support, and in the US for complex infrastructure, maritime and aviation services Intelligence & Security Continued demand in the US for the Group’s services 0.7 0.7 9 9 (within Cyber & Intelligence) intheareas of homeland security, law enforcement andcounter-intelligence The headroom, calculated as the difference between net assets including allocated goodwill as at 31 December 2021 and the value in use calculations, for the CGUs listed above, is shown below. The table also shows the headroom assuming a 1% reduction in the terminal value growth rate assumption, a 1% increase in the discount rate and a 1% reduction in the operating margin used in the value in use calculations. Headroom assuming | | | | a 1% reduction in the | | | Headroom assuming | | | Headroom assuming | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | Headroom as at | | terminal value growth | | | a 1% increase in the | | | a 1% reduction in | | | | | 31 December | | | rate assumption | | | discount rate | | operating margin | | | | | 2021 | 2020 | | 2021 | 2020 | | 2021 | 2020 | | 2021 | 2020 | | Cash-Generating Unit | £bn | £bn | | £bn | £bn | | £bn | £bn | | £bn | £bn | Electronic Systems 4.3 4.7 2.8 3.2 2.6 2.9 3.6 4.0 Platforms & Services (US) 1.5 1.2 0.7 0.5 0.5 0.3 0.9 0.7 Intelligence & Security 0.7 0.7 0.5 0.5 0.4 0.4 0.5 0.5 Other CGUs The remaining goodwill balance of £2.0bn (2020 £2.0bn) is allocated across multiple CGUs. No individual CGU exceeds 10% of the Group’s total goodwill balance. The majority of the projected cash flows within these CGUs are underpinned by expected levels of primarily UK government spending on defence, aerospace and security, and the Group’s ability to capture a broadly consistent market share. Capital commitments At 31 December 2021, capital expenditure of £25m (2020 £20m) in respect of intangible assets was contracted for but not provided forintheaccounts. 220 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 9. Property, plant and equipment Cost Items of property, plant and equipment are stated at cost less accumulated depreciation and impairment losses. The cost of self-constructed assets includes the cost of materials, direct labour and an appropriate proportion of production overheads. The cost ofdemonstration assets iswritten off as incurred. The reimbursement of the cost of an item of property, plant and equipment by way of a government grant is presented as deferred income and recognised in the income statement on a basis consistent with the depreciation of the asset over its estimated useful life. Assets held for leasing out under operating leases are included inproperty, plant and equipment at cost less accumulated depreciation and impairment losses. Depreciation Depreciation is provided, normally on a straight-line basis, to write off the cost of items of property, plant and equipment over their estimated useful lives to any estimated residual value, using the following rates: Buildings up to 50 years, or the lease term if shorter Plant and machinery: Computing equipment and motor vehicles 4 to 5 years Other equipment 10 to 20 years, or the project life if shorter No depreciation is provided on freehold land and assets in the course of construction. The assets’ residual values, useful lives and depreciation methods are reviewed, and adjusted if appropriate, at each balance sheet date. Impairment The carrying amounts of the Group’s property, plant and equipment are reviewed at each balance sheet date to determine whether there isanyindication of impairment in accordance with the policy shown in note 8. BAE Systems plc Annual Report 2021 221 Financial statements ## Notes to the Group accounts continued ### 9. Property, plant and equipment continued | | Land and buildings £m | Plant and machinery £m | Total £m | | --- | --- | --- | --- | | **Cost** | | | | | At 1 January 2020 | 2,394 | 3,435 | 5,829 | | Additions^{1} | 268 | 279 | 547 | | Business acquisitions (note 34) | – | 28 | 28 | | Transfer to intangible assets | (9) | (7) | (16) | | Reclassification between categories | 30 | (30) | – | | Disposals | (131) | (50) | (181) | | Foreign exchange adjustments | (21) | (45) | (66) | | At 31 December 2020 | 2,531 | 3,610 | 6,141 | | Additions^{1} | 239 | 262 | 501 | | Business acquisitions (note 34) | – | 1 | 1 | | Transfer to intangible assets | – | (1) | (1) | | Reclassification between categories | 7 | (7) | – | | Disposals | (23) | (115) | (138) | | Foreign exchange adjustments | – | 6 | 6 | | **At 31 December 2021** | **2,754** | **3,756** | **6,510** | | **Depreciation and impairment** | | | | | At 1 January 2020 | 1,153 | 2,239 | 3,392 | | Depreciation charge for the year | 88 | 213 | 301 | | Reversal of impairment charge | (2) | – | (2) | | Reclassification between categories | 2 | (2) | – | | Disposals | (116) | (48) | (164) | | Foreign exchange adjustments | (12) | (29) | (41) | | At 31 December 2020 | 1,113 | 2,373 | 3,486 | | Depreciation charge for the year | 94 | 202 | 296 | | Impairment charge | – | 4 | 4 | | Reclassification between categories | 4 | (4) | – | | Disposals | (22) | (112) | (134) | | Foreign exchange adjustments | 2 | 4 | 6 | | **At 31 December 2021** | **1,191** | **2,467** | **3,658** | | **Net book value** | | | | | **At 31 December 2021** | **1,563** | **1,289** | **2,852** | | At 31 December 2020 | 1,418 | 1,237 | 2,655 | | At 1 January 2020 | 1,241 | 1,196 | 2,437 | 1. Includes £149m (2020 £170m) of land and buildings at Barrow-in-Furness, UK, relating to the Dreadnought submarine programme funded by the UK government. 222 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 9. Property, plant and equipment continued ### Net impairment | | 2021 £m | 2020 £m | | --- | --- | --- | | Platforms & Services (US) | 4 | – | | Electronic Systems | – | (2) | | | 4 | (2) | ### 2021 The impairment charge in Platforms & Services in 2021 related to a reduction in manufacturing activities. ### 2020 The impairment charge raised in Electronic Systems in 2019 was written back in 2020 due to the sale of the property in Austin, Texas. ### Assets in the course of construction | | Land and buildings^{1} £m | Plant and machinery £m | Total £m | | --- | --- | --- | --- | | **At 31 December 2021** | **398** | **274** | **672** | | At 31 December 2020 | 470 | 260 | 730 | 1. Includes £262m (2020 £350m) at Barrow-in-Furness, UK, relating to the Dreadnought submarine programme funded by the UK government. ### Capital commitments At 31 December 2021, capital expenditure of £210m (2020 £134m) in respect of property, plant and equipment was contracted for but not provided for in the accounts. ## 10. Leases ### The Group as lessee All leases in which the Group is lessee (except as noted below) are recognised as a right-of-use asset and a corresponding lease liability at the date at which the leased asset is available for use by the Group. Each lease payment is allocated between repayment of the lease liability and finance cost. The finance cost is charged to the income statement over the lease term to produce a constant periodic rate of interest on the lease liability. The right-of-use asset is depreciated over the shorter of the asset's useful life and the lease term on a straight-line basis. The lease liability is initially measured as the present value of future lease payments, discounted using the interest rate implicit in the lease. Where this rate is not determinable, the Group's incremental borrowing rate is used, which is the interest rate the Group would have to pay to borrow the amount necessary to obtain an asset of similar value, in a similar economic environment with similar terms and conditions. The right-of-use asset is initially measured at cost, comprising the initial value of the lease liability, any lease payments made (net of any incentives received from the lessor) before the commencement of the lease, any initial direct costs and any restoration costs. The carrying amounts of the Group's right-of-use assets are reviewed at each balance sheet date to determine whether there is any indication of impairment in accordance with the policy shown in note 8. Payments in respect of short-term leases, low-value leases and leases of intangible assets are charged to the income statement on a straight-line basis over the lease term. ### The Group as lessor Leases in which the Group is lessor are classified as finance leases or operating leases. If the lease transfers substantially all of the risks and rewards of ownership to the lessee, the lease is classified as a finance lease. All other leases are classified as operating leases. A sublease where the Group is an intermediate lessor is classified as a finance lease when it transfers substantially all of the risks and rewards of the right-of-use asset arising from the head lease. Lease income under operating leases is recognised in the income statement on a straight-line basis over the lease term. Amounts due from lessees under finance leases are recognised as a receivable discounted at the interest rate implicit in the lease. Finance lease income is recognised in the income statement over the lease term to produce a constant periodic rate of interest on the receivable. The Group leases land, buildings, vehicles and equipment under non-cancellable lease arrangements. The leases have varying terms, including escalation clauses, renewal rights and purchase options. None of these terms represent unusual arrangements or create material onerous or beneficial rights or obligations. BAE Systems plc Annual Report 2021 223 Financial statements # Notes to the Group accounts continued ## 10. Leases continued ### Right-of-use assets | | 2021 | | | 2020 | | | | --- | --- | --- | --- | --- | --- | --- | | | Land and buildings £m | Plant and machinery £m | Total £m | Land and buildings £m | Plant and machinery £m | Total £m | | Net book value at 1 January | 1,037 | 16 | 1,053 | 1,120 | 18 | 1,138 | | Additions during the year | 117 | 9 | 126 | 142 | 11 | 153 | | Business acquisitions (note 34) | – | – | – | 12 | – | 12 | | Lease modifications during the year | 125 | (1) | 124 | (1) | (1) | (2) | | Depreciation expense for the year | (206) | (8) | (214) | (222) | (10) | (232) | | Impairment charge for the year | – | – | – | – | (2) | (2) | | Foreign exchange adjustments | 2 | – | 2 | (14) | – | (14) | | **Net book value at 31 December** | **1,075** | **16** | **1,091** | **1,037** | **16** | **1,053** | ### Lease liabilities A maturity analysis of the future undiscounted lease payments in respect of the Group's lease liabilities is presented in the table below: | | 2021 £m | 2020 £m | | --- | --- | --- | | Payments due: | | | | Within one year | 240 | 270 | | Between one and five years | 586 | 633 | | Later than five years | 683 | 551 | | Total undiscounted gross payments | 1,509 | 1,454 | | Deduct Impact of discounting | (214) | (198) | | **Lease liabilities** | **1,295** | **1,256** | The Group is also committed to future undiscounted lease payments of £214m in respect of leases which had not yet commenced at 31 December 2021 (2020 £95m). The total cash outflow for leases in the year ended 31 December 2021, including short-term leases and low-value leases, amounted to £281m (2020 £304m). ### Amounts recognised in the income statement | | 2021 £m | 2020 £m | | --- | --- | --- | | **Included in operating costs:** | | | | Depreciation on right-of-use assets | (214) | (232) | | Impairment of right-of-use assets | – | (2) | | Short-term lease expense | (19) | (23) | | Low-value lease expense | (4) | (3) | | | **(237)** | **(260)** | | **Included in other income:** | | | | Operating lease income from investment property | 9 | 30 | | Operating lease income from subleasing right-of-use assets | 1 | – | | | **10** | **30** | | **Included in net finance costs:** | | | | Interest income on finance lease receivables | 1 | 1 | | Interest expense on lease liabilities | (43) | (44) | | | **(42)** | **(43)** | 224 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 10. Leases continued Operating leases The Group is party to operating leases in which it is the lessor, primarily relating to investment property. Under the terms of the lease agreements, no contingent rents are receivable. The leases have varying terms including escalation clauses and renewal rights. None of these terms represent unusual arrangements or create material onerous or beneficial rights or obligations. A maturity analysis of the future undiscounted lease receipts from operating leases in which the Group is lessor is presented in the table below: 2021 2020 £m £m Receipts due: Within one year 2 30 Between one and two years 1 29 Between two and three years 1 27 Between three and four years 1 26 Between four and five years 1 – Later than five years 2 4 8 116 Finance lease receivables A sublease is classified as a finance lease when it transfers substantially all of the risks and rewards of the right-of-use asset arising fromthe headlease. A maturity analysis of the future undiscounted lease receipts from finance leases in which the Group is lessor is presented in the table below: 2021 2020 £m £m Receipts due: Within one year 11 11 Between one and two years 11 10 Between two and three years 10 11 Between three and four years 5 9 Between four and five years 4 5 Later than five years 7 11 Total undiscounted gross receipts 48 57 Deduct: Impact of discounting (4) (4) Finance lease receivables (note 13) 44 53 BAE Systems plc Annual Report 2021 225 Financial statements # Notes to the Group accounts continued ## 11. Investment property ### Cost Land and buildings that are leased to non-Group entities are classified as investment property. The Group measures investment property at its cost less accumulated depreciation and impairment losses. ### Depreciation Depreciation is provided, on a straight-line basis, to write off the cost of investment property over its estimated useful life of up to 50 years. The assets' residual values and useful lives are reviewed, and adjusted if appropriate, at each balance sheet date. ### Impairment The carrying amounts of the Group's investment property are reviewed at each balance sheet date to determine whether there is any indication of impairment in accordance with the policy shown in note 8. | | £m | | --- | --- | | **Cost** | | | At 1 January 2020 | 209 | | Additions | 8 | | Disposals | (17) | | At 31 December 2020 | 200 | | Additions | 17 | | Disposals | (141) | | **At 31 December 2021** | **76** | | **Depreciation and impairment** | | | At 1 January 2020 | 72 | | Depreciation charge for the year | 10 | | Disposals | (10) | | At 31 December 2020 | 72 | | Depreciation charge for the year | 3 | | Disposals | (66) | | **At 31 December 2021** | **9** | | **Net book value** | | | **At 31 December 2021** | **67** | | At 31 December 2020 | 128 | | At 1 January 2020 | 137 | | **Fair value** | | | **At 31 December 2021** | **82** | | At 31 December 2020 | 322 | The fair values above are based on and reflect current market values as prepared by in-house professionals who have the appropriate professional qualifications and recent experience of valuing properties in the location and of the type being valued. ### Capital commitments At 31 December 2021, capital expenditure of £20m (2020 £34m) in respect of investment property was contracted for but not provided for in the accounts. 226 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 12. Equity accounted investments Equity accounted investments comprises joint ventures and associates. A joint venture is a joint arrangement whereby the parties that have joint control have rights to the net assets of the arrangement. An associate is an entity over which the Group has significant influence. The Group recognises its share of the profit or loss and other comprehensive income of equity accounted investments as a separate line in the Consolidated income statement and Consolidated statement of comprehensive income, respectively. The carrying value of an equity accounted investment comprises the Group's share of net assets and purchased goodwill, and is assessed for impairment as a single asset. The carrying amounts of the Group's equity accounted investments are reviewed at each balance sheet date to determine whether there is any indication of impairment in accordance with the policy shown in note 8. ### Principal equity accounted investments | Joint venture | Principal activities | Shareholding | Principally operates in | | --- | --- | --- | --- | | Eurofighter Jagdflugzeug | Management and control of the European Typhoon programme | 33% | Germany | | MBDA | Development and manufacture of guided weapons | 37.5% | Europe | The following tables summarise the financial information of the Group's principal equity accounted investments included in their own financial statements, as adjusted for fair value adjustments at acquisition and differences in accounting policies, and reconcile this to the Group's interest in those equity accounted investments. | | 2021 | | 2020 | | | --- | --- | --- | --- | --- | | | Eurofighter Jagdflugzeug £m | MBDA £m | Eurofighter Jagdflugzeug £m | MBDA £m | | **Revenue (100%)** | **3,165** | **3,513** | 2,715 | 3,193 | | Underlying EBIT^{1} excluding depreciation and amortisation | 6 | 512 | 12 | 479 | | Depreciation and amortisation | – | (117) | – | (114) | | Financial income | 2 | 7 | 1 | 7 | | Financial expense | (2) | (12) | – | (18) | | Taxation expense | (3) | (107) | (4) | (106) | | **Profit for the year (100%)** | **3** | **283** | 9 | 248 | | Remeasurements on post-employment benefit schemes, net of tax | – | 172 | – | (148) | | Amounts credited to hedging reserve, net of tax | – | 17 | – | 4 | | Foreign exchange adjustments | – | 13 | – | (6) | | **Total comprehensive income for the year (100%)** | **3** | **485** | 9 | 98 | | **Group's share of total comprehensive income for the year** | **1** | **182** | 3 | 37 | | Non-current assets | 32 | 2,280 | 16 | 2,440 | | Cash and cash equivalents | 24 | 2,367 | 9 | 2,552 | | Current assets excluding cash and cash equivalents | 7,630 | 4,210 | 1,143 | 4,410 | | Current assets | 7,654 | 6,577 | 1,152 | 6,962 | | Non-current financial liabilities excluding trade and other payables, and provisions | – | (5) | – | (3) | | Other non-current liabilities | (62) | (527) | (68) | (866) | | Non-current liabilities | (62) | (532) | (68) | (869) | | Current financial liabilities excluding trade and other payables, and provisions | (7) | – | – | – | | Other current liabilities | (7,590) | (7,424) | (1,065) | (7,964) | | Current liabilities | (7,597) | (7,424) | (1,065) | (7,964) | | **Net assets (100%)** | **27** | **901** | 35 | 569 | 1. Underlying EBIT is an alternative performance measure defined in the Financial glossary on page 78. With effect from 2021, the Group adopted the underlying EBIT profitability measure, to include charges relating to software and development intangible amortisation, in place of the previously reported underlying EBITA measure, as it reflects a better measure of underlying profitability, by including amortisation of software and development intangibles as these charges are viewed as a recurring operational cost for the business. BAE Systems plc Annual Report 2021 227 Financial statements ## Notes to the Group accounts continued ### 12. Equity accounted investments continued | | 2021 | | | 2020 | | | | --- | --- | --- | --- | --- | --- | --- | | | Eurofighter Jagdflugzeug £m | MBDA £m | Total £m | Eurofighter Jagdflugzeug £m | MBDA £m | Total £m | | Group's share of net assets | 9 | 338 | 347 | 12 | 213 | 225 | | Goodwill adjustment | – | 7 | 7 | – | 6 | 6 | | **Carrying value** | **9** | **345** | **354** | **12** | **219** | **231** | | | 2021 | | | 2020 | | | | --- | --- | --- | --- | --- | --- | --- | | | Eurofighter Jagdflugzeug £m | MBDA £m | Total £m | Eurofighter Jagdflugzeug £m | MBDA £m | Total £m | | **Dividends received** | **2** | **41** | **43** | **6** | **–** | **6** | #### Group summary The Group also has a number of individually immaterial joint ventures and associates, the carrying values of the most significant of which at 31 December 2021 are as follows: Rheinmetall BAE Systems Land (RBSL) (£80m), FADEC International (£44m), Air Astana (£19m), FNSS (£17m) and Panavia Aircraft (£17m). The following table shows a reconciliation of opening to closing carrying value for both the Group's principal and immaterial joint ventures and associates in aggregate. | | Principal equity accounted investments £m | Other joint ventures £m | Other associates £m | Total £m | | --- | --- | --- | --- | --- | | At 1 January 2020 | 194 | 153 | 81 | 428 | | Group's share of profit for the year | 95 | (28) | 2 | 69 | | Group's share of remeasurements on post-employment benefit schemes | (71) | – | – | (71) | | Tax on items that will not be reclassified to the income statement | 16 | – | – | 16 | | Foreign exchange adjustments | (2) | – | – | (2) | | Amounts credited/(charged) to hedging reserve | 2 | (6) | – | (4) | | Tax on items that may be reclassified to the income statement | – | – | (1) | (1) | | Group's share of total comprehensive income for the year | 40 | (34) | 1 | 7 | | Equity accounted investment reclassified as held for sale (note 19) | – | (5) | – | (5) | | Equity accounted investment funding | – | 2 | – | 2 | | Dividends received from equity accounted investments | (6) | (21) | – | (27) | | Foreign exchange adjustments | 3 | 1 | – | 4 | | At 31 December 2020 | 231 | 96 | 82 | 409 | | Group's share of profit for the year | 107 | 28 | 4 | 139 | | Group's share of remeasurements on post-employment benefit schemes | 85 | – | – | 85 | | Tax on items that will not be reclassified to the income statement | (21) | – | – | (21) | | Foreign exchange adjustments | 6 | – | (1) | 5 | | Amounts credited to hedging reserve | 8 | 4 | – | 12 | | Tax on items that may be reclassified to the income statement | (2) | (1) | – | (3) | | Group's share of total comprehensive income for the year | 183 | 31 | 3 | 217 | | Equity accounted investment funding | – | 3 | – | 3 | | Dividends received from equity accounted investments | (43) | (14) | – | (57) | | Foreign exchange adjustments | (17) | (1) | – | (18) | | **At 31 December 2021** | **354** | **115** | **85** | **554** | #### Contingent liabilities The Group is not aware of any material contingent liabilities in respect of its equity accounted investments. 228 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ### 13. Trade, other and contract receivables Trade and contract receivables are measured at amortised cost under IFRS 9 Financial Instruments as they are held within a business model to collect contractual cash flows and these cash flows consist solely of payments of principal and interest on the principal amount outstanding. Contract receivables represent amounts for which the Group has an unconditional right to consideration in respect of unbilled revenue recognised at the balance sheet date and comprise costs incurred plus attributable margin. Trade receivables, contract receivables, amounts owed by equity accounted investments and finance lease receivables include a provision for expected credit losses. The Group measures the provision at an amount equal to lifetime expected credit losses, estimated by reference to past experience and relevant forward-looking factors. The Group writes off a receivable when there is objective evidence that the debtor is in significant financial difficulty and there is no realistic prospect of recovery, for example, when a debtor enters bankruptcy or financial reorganisation. US deferred compensation plan assets are measured at fair value in accordance with IAS 19 Employee Benefits. | | 2021 £m | 2020 £m | | --- | --- | --- | | **Non-current** | | | | Contract receivables | 21 | 27 | | Prepayments | 70 | 68 | | Accrued income | 1 | 1 | | US deferred compensation plan assets | 376 | 344 | | Finance lease receivables (note 10) | 33 | 43 | | Other receivables | 50 | 23 | | | **551** | **506** | | **Current** | | | | Contract receivables | 2,671 | 2,579 | | Trade receivables | 1,043 | 1,611 | | Amounts owed by equity accounted investments (note 32) | 34 | 69 | | Prepayments | 444 | 646 | | Accrued income | 53 | 89 | | Finance lease receivables (note 10) | 11 | 10 | | Other receivables^{1} | 569 | 487 | | | **4,825** | **5,491** | 1. Includes £419m (2020 £234m) in relation to VAT receivable in Saudi Arabia. Trade receivables are stated net of a provision for expected credit losses. Disclosures relating to the ageing of trade receivables and movements in the provision for expected credit losses are provided in note 14. BAE Systems plc Annual Report 2021 229 Financial statements # Notes to the Group accounts continued ## 14. Other financial assets and liabilities and financial risk management ### Derivative financial instruments and hedging activities The international nature of the Group's business means it is exposed to volatility in currency exchange rates. In order to protect itself against currency fluctuations, the Group's policy is to hedge all material firm transactional exposures. The Group uses interest rate derivative instruments to manage the Group's exposure to interest rate fluctuations on its borrowings and deposits by varying the proportion of fixed rate debt relative to floating rate debt over the forward time horizon. The Group uses foreign exchange derivative instruments to manage the Group's exposure to currency fluctuations on its borrowings and deposits with the Group's subsidiaries and equity accounted investments. In accordance with its treasury policy, the Group does not hold derivative financial instruments for trading purposes. The Group aims to achieve hedge accounting treatment for all derivatives that hedge material foreign currency exposures. Derivative financial instruments are recognised initially at fair value. Subsequent to initial recognition, such instruments are stated at fair value at the balance sheet date. The fair values are estimated by discounting expected future cash flows. ### Fair value through profit or loss Gains and losses on derivative financial instruments that are not designated as cash flow hedges are recognised within finance costs in the income statement for the period. ### Cash flow hedges Where a derivative financial instrument is designated as a hedge of the exposure to variability in cash flows relating to a highly probable forecast transaction (income or expense) or recognised asset or liability, the effective portion of any change in the fair value of the instrument is recognised in other comprehensive income and presented in the hedging reserve in equity. Amounts recognised in equity are removed from the hedging reserve and included in the cost of the underlying transaction or reclassified to the income statement when the underlying transaction affects profit or loss. These amounts are presented within the same line item in the income statement as the underlying transaction, typically revenue or operating costs. The ineffective portion of any change in the fair value of the instrument is recognised in the income statement within finance costs immediately. The Group treats the foreign currency basis element of the designated foreign exchange derivative hedging instruments as a cost of hedging and as such it is excluded from the hedge designation. Any hedges entered into on behalf of equity accounted investments (note 32) are classified as cash flow hedges. | | 2021 | | 2020 | | | --- | --- | --- | --- | --- | | | Assets £m | Liabilities £m | Assets £m | Liabilities £m | | **Non-current** | | | | | | Cash flow hedges – foreign exchange contracts | 191 | (172) | 111 | (96) | | Other foreign exchange/interest rate contracts | – | – | – | (4) | | Debt-related derivative financial instruments | 114 | (130) | 137 | (182) | | | 305 | (302) | 248 | (282) | | **Current** | | | | | | Cash flow hedges – foreign exchange contracts | 186 | (181) | 180 | (136) | | Other foreign exchange/interest rate contracts | 8 | (33) | 9 | (28) | | Debt-related derivative financial instruments | – | – | – | (17) | | | 194 | (214) | 189 | (181) | ### Debt-related derivative financial instruments The debt-related derivative financial instruments represent the fair value of cross-currency, interest rate and foreign exchange derivatives relating to the US$800m 3.8% bond, repayable 2024, the US$500m 7.5% bond, repayable 2027, the US$1,300m 3.4% bond, repayable 2030, and the US$400m 5.8% bond, repayable 2041 (see note 21). These derivatives have been entered into specifically to manage the Group's exposure to foreign exchange or interest rate risk. 230 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 14. Other financial assets and liabilities and financial risk management continued ### Interest rate risk The Group's objective is to manage its exposure to interest rate fluctuations on borrowings through varying the proportion of fixed rate debt relative to floating rate debt with derivative instruments, including interest rate and cross-currency swaps. The Group's interest rate management policy is that a minimum of 50% (2020 50%) and a maximum of 90% (2020 90%) of gross debt is maintained at fixed interest rates. At 31 December 2021, the Group had 87% (2020 88%) of fixed rate debt and 13% (2020 12%) of floating rate debt based on a gross debt of £5.1bn (2020 £5.5bn), including debt-related derivative financial assets. Based on contracted maturities and/or repricing dates, the following amounts are exposed to interest rate risk over the future as shown below: | | Less than one year £m | Between one and two years £m | More than two years £m | | --- | --- | --- | --- | | Cash and cash equivalents | 2,917 | – | – | | Loans and overdrafts | 661 | 661 | 661 | The floating rate debt has been predominantly achieved by entering into interest rate swaps which swap the fixed rate US dollar interest payable on debt into either floating rate sterling or US dollars. At the end of 2021, the Group had a total of $0.9bn (2020 $0.9bn) of this type of swap outstanding with a weighted average duration of 2.8 years (2020 3.8 years). In respect of the fixed rate debt, the weighted average period in respect of which interest is fixed was 12.2 years (2020 12.1 years). Given the level of short-term interest rates during the year, the average cost of the floating rate debt was 2.6% (2020 3.4%) on US dollars. The cost of the fixed rate debt was 3.8% (2020 4.1%). The Group is undertaking a full review of the impact of IBOR reforms, but due to the utilisation of interest rate swaps, no significant impact is expected. ### Sensitivity analysis A change of 100 basis points in short-term rates applied to the average fixed/floating mix and level of borrowings would vary the interest cost to the Group by approximately £7m (2020 £7m). In respect of cash deposits, given the fluctuation in the Group's working capital requirements, cash is generally invested for short-term periods based at floating interest rates. A change of 100 basis points in the average interest rates during the year applied to the average cash deposits would vary the interest receivable by approximately £21m (2020 £22m). ### Liquidity risk #### Contractual cash outflows on financial liabilities The contracted cash outflows on loans and overdrafts, and derivative financial instruments at the reporting date are shown below, classified by maturity. The cash outflows are shown on a gross basis, are not discounted, are translated at the spot rate and include estimated interest payments where applicable. Contracted cash outflows reflects the gross cash outflow on derivative financial instruments and excludes the broadly offsetting cash inflows for the receive leg of derivatives that are settled separately to the pay leg. | | 31 December 2021 | | | | | 31 December 2020 | | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | Contracted cash outflow | | | | | Contracted cash outflow | | | | | | | Carrying amount £m | Less than one year £m | Between one and five years £m | More than five years £m | Total £m | Carrying amount £m | Less than one year £m | Between one and five years £m | More than five years £m | Total £m | | **Loans and overdrafts** | **(5,061)** | **(593)** | **(1,785)** | **(4,848)** | **(7,226)** | **(5,424)** | **(676)** | **(2,240)** | **(5,013)** | **(7,929)** | | Cash flow hedges – financial assets | 377 | (6,509) | (4,081) | (173) | (10,763) | 291 | (6,190) | (4,241) | (343) | (10,774) | | Cash flow hedges – financial liabilities | (353) | (6,204) | (4,963) | (214) | (11,381) | (232) | (6,228) | (4,582) | (431) | (11,241) | | Other foreign exchange/interest rate contracts – financial assets | 8 | (417) | – | – | (417) | 9 | (516) | – | – | (516) | | Other foreign exchange/interest rate contracts – financial liabilities | (33) | (2,247) | (3) | – | (2,250) | (32) | (1,515) | – | – | (1,515) | | Debt-related derivatives – financial assets^{2} | 114 | (489) | (127) | (60) | (676) | 137 | (40) | (144) | (47) | (231) | | Debt-related derivatives – financial liabilities^{2} | (130) | (486) | (141) | (123) | (750) | (199) | (457) | (1,040) | (158) | (1,655) | | Accruals^{2} | (1,855) | (1,832) | (23) | – | (1,855) | (1,634) | (1,603) | (31) | – | (1,634) | | Trade and other payables | (2,065) | (2,043) | (22) | – | (2,065) | (2,713) | (2,639) | (74) | – | (2,713) | | Lease liabilities | (1,295) | (240) | (586) | (683) | (1,509) | (1,256) | (270) | (633) | (551) | (1,454) | | **Other financial assets and liabilities** | **(5,232)** | | | | | **(5,629)** | | | | | 1. Accruals presented in the table excludes £646m (2020 £547m) of accruals which are non-financial liabilities. 2. Cash outflows in relation to currency swaps on external debt-related derivatives (note 21) have been excluded from the liquidity table, on the basis that the repayment of the debt is already presented. The prior year comparative has been re-presented to include principal payments on certain other cross-currency swaps excluded in the prior year disclosure (£899m). BAE Systems plc Annual Report 2021 231 Financial statements ## Notes to the Group accounts conti nued ### 14. Other financial assets and liabilities and financial risk management continued Borrowing facilities The Group’s objective is to maintain adequate undrawn committed borrowing facilities. At 31 December 2021, the Group had a committed Revolving Credit Facility (RCF) of £2bn (2020 £2bn). The RCF was undrawn throughout the year. The RCF also acts as a backstop toCommercial Paper issuedby the Group. At 31 December 2021, the Group had no Commercial Paper inissue (2020 £nil). Currency risk The Group’s objective is to reduce its exposure to transactional volatility in earnings and cash flows from movements in foreign currency exchangerates, mainly the US dollar, euro, Saudi riyal and Australian dollar. The Group is exposed to movements in foreign currency exchange rates in respect of foreign currency denominated transactions. All material firmtransactional exposures are hedged using foreign exchange forward contracts and the Group aims, where possible, to apply cash flow hedgeaccounting to these transactions. The currency and notional amount of the designated hedging instruments match the currency and principal amounts of the forecast transactionsbeing hedged, therefore the hedging instruments and hedged items have values which will generally move in opposite directions because of the same hedged risk. As the critical terms of the hedging instruments match those of the hedged items, an economic relationship canbe demonstrated on an ongoing basis. The hedge ratio is 1:1 on the basis that the notional amount of the designated hedging instruments matches the principal amount of the forecastforeign currency sales/purchases designated as the hedged items. The Group does not designate groups of items with offsetting riskpositions as hedged items. The Group considers the potential sources of hedge ineffectiveness to be: – valuation adjustments for credit risk made to derivative hedging instruments at each hedge effectiveness measurement date; – changes to the timing and amount of forecast transactions; and – non-occurrence of the designated hedged items. Ineffectiveness due to foreign currency basis was highly immaterial. The effect of cash flow hedges on the Group’s financial position and performance for the year is as follows: 31 December 2021 Currency purchased Currency sold Net impact Change in | | | | | | | | | | | | | | the value | | Change in | | | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | | Notional | | | | | | Notional | | ofhedging | | | the value | | | | | | | | | Weighted | | value of | | | | Weighted | | value of | | instruments | | | ofhedged | | | | | | | | | average | | currency | | | | average | | currency | | | | since | itemssince | | Notional | | Carrying | | | Maturity | | hedged | | purchased | | Maturity | | hedged | | | sold | | 1January | | 1 January | | amount | | amount | | | | date | | rate | | £m | | date | | rate | | £m | | | £m | | £m | | £m | | £m | (Purchase)/sale contracts: Sterling/US dollar to 2029 1.36 (3,048) to 2029 1.35 4,570 11 (11) 1,522 24 Sterling/euro to 2031 1.11 (6,455) to 2031 1.11 6,003 5 (5) (452) 10 Other to 2030 n/a (2,703) to 2030 n/a 2,693 (5) 5 (10) (10) Cash flow hedges (12,206) 13,266 11 (11) 1,060 24 31 December 2020 Currency purchased Currency sold Net impact Change in | | | | | | | | | | | | | the value | | Change in | | | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | | Notional | | | | | | Notional | | ofhedging | | the value | | | | | | | | | Weighted | | value of | | | | Weighted | | value of | | instruments | | ofhedged | | | | | | | | | average | | currency | | | | average | | currency | | | since | itemssince | | Notional | | Carrying | | | Maturity | | hedged | | purchased | | Maturity | | hedged | | | sold | 1January | | 1 January | | amount | | amount | | | | date | | rate | | £m | | date | | rate | | £m | | £m | | £m | | £m | | £m | (Purchase)/sale contracts: Sterling/US dollar to 2028 1.35 (3,284) to 2029 1.32 3,147 8 (8) (137) 58 Sterling/euro to 2031 1.09 ( 7,4 69) to 2031 1.09 7,113 81 (81) (356) 4 Other to 2026 n/a (1,598) to 2026 n/a 1,594 (43) 43 (4) (3) Cash flow hedges (12,351) 11, 85 4 46 (46) (497) 59 Sensitivity analysis The Group is exposed to movements in foreign currency exchange rates in respect of the translation of net assets and income statements of foreign subsidiaries and equity accounted investments. The Group does not hedge the translation effect of exchange rate movements on the income statements or balance sheets of foreign subsidiaries and equity accounted investments it regards as long-term investments. The estimated impact on foreign exchange gains and losses in net finance costs of a ten cent movement in the closing sterling to US dollar exchange rate onthe retranslation of US dollar-denominated bonds held by BAE Systems plc is approximately £203m (2020 £226m). 232 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 14. Other financial assets and liabilities and financial risk management continued ### Credit risk For trade receivables, contract receivables, amounts due from equity accounted investments and finance lease receivables, the Group measures a provision for expected credit losses at an amount equal to lifetime expected credit losses, estimated by reference to past experience and relevant forward-looking factors. The Group's assessment is that credit risk in relation to defence-related sales to government customers or subcontractors to governments is extremely low as the probability of default is insignificant; therefore the provision for expected credit losses is immaterial in respect of receivables from these customers. For all non-government commercial customers, the Group assesses expected credit losses, including risk arising amid the COVID-19 pandemic; however, this is not considered material to the financial statements. The Group considers that default has occurred when a receivable is past 180 days overdue, because historical experience indicates that these receivables are generally not recoverable. The Group recognises a provision of 100% against all receivables over 180 days past due unless there is evidence that individual receivables in this category are recoverable. The carrying amount of the Group's financial assets represents the maximum exposure to credit risk. Movements on the provision for expected credit losses are as follows: | | 2021 £m | 2020 £m | | --- | --- | --- | | At 1 January | 36 | 20 | | Net remeasurement of loss allowance | (19) | 19 | | Amounts written off | (2) | (3) | | **At 31 December** | **15** | **36** | For contract receivables, amounts due from equity accounted investments and finance lease receivables the expected credit loss provision is immaterial as the probability of default is insignificant. The Group writes off a receivable when there is evidence that the debtor is in significant financial difficulty and there is no realistic prospect of recovery, for example, when a debtor enters bankruptcy or financial reorganisation. None of the trade receivables that were written off during the year are still subject to enforcement activity. The ageing of trade receivables is detailed below: | | 2021 | | | 2020 | | | | --- | --- | --- | --- | --- | --- | --- | | | Gross £m | Provision £m | Net £m | Gross £m | Provision £m | Net £m | | Not past due | 783 | – | 783 | 1,029 | – | 1,029 | | Up to 180 days overdue | 223 | (1) | 222 | 544 | – | 544 | | Past 180 days overdue | 52 | (14) | 38 | 74 | (36) | 38 | | | **1,058** | **(15)** | **1,043** | **1,647** | **(36)** | **1,611** | ### Cash management Cash flow forecasting is performed by the businesses on a monthly basis. The Group monitors a rolling forecast of its liquidity requirements to ensure that there is sufficient cash to meet operational needs and maintain adequate headroom. Surplus cash held by the businesses over and above balances required for working capital management is loaned to the Group's centralised treasury department. Surplus cash is invested in instant-access current accounts, short-term deposits and money market funds, choosing instruments with appropriate maturities or sufficient liquidity to provide adequate headroom as determined by cash forecasts. The Group's objective is to monitor and control counterparty credit risk and credit limit utilisation. The Group adopts a conservative approach to the investment of its surplus cash which is deposited with financial institutions with investment-grade (BBB- and above) credit ratings for short periods. The cash and cash equivalents balance at 31 December 2021 of £2,917m (2020 £2,768m) was invested with 36 (2020 38) financial institutions. A credit limit is allocated to each institution taking account of its market capitalisation, credit rating and credit default swap price. The cash and cash equivalents of the Group are invested in non-speculative financial instruments which are usually highly liquid, such as short-term deposits. The Group therefore believes it has reduced its exposure to counterparty credit risk through this process. The cash and cash equivalents balance is subject to review for impairment under IFRS 9 as set out below: | Counterparty credit rating at 31 December | 2021 | 2020 | | --- | --- | --- | | AAA to AA- | 68% | 59% | | A+ to A- | 31% | 40% | | BBB+ to BBB- | 1% | 1% | BAE Systems plc Annual Report 2021 233 Financial statements ## Notes to the Group accounts conti nued ### 14. Other financial assets and liabilities and financial risk management continued Offsetting financial assets and liabilities 2021 2020 | Balance | | Amounts | | | | Net | Balance | | Amounts | | | | Net | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | | 1 | | | | | | | 1 | | | | sheet | | not offset | | | balances | | | sheet | not offset | | | balances | | | | £m | | £m | | | £m | | £m | | £m | | | £m | Assets Other financial assets 499 (383) 116 437 (303) 134 Liabilities Other financial liabilities (516) 383 (133) (463) 285 (178) 1. The amounts subject to a master netting arrangement not offset in the Consolidated balance sheet in accordance with paragraph 42 of IAS 32. Includes £383m (2020£285m) in respect of recognised financial instruments and £nil (2020 £18m) in respect of cash collateral. ### 15. Deferred tax A deferred tax asset is recognised for unused tax losses, tax credits and deductible temporary differences to the extent that it is probable that future taxable profits will be available against which they can be utilised. Deferred tax assets are reviewed at each reporting date and reduced tothe extent that it is no longer probable that the related tax benefit will be realised. The most significant recognised deferred tax assets relate to the deficits on the Group’s pension/post-employment schemes (see below). This isbecause post-employment benefit costs are deducted in determining accounting profit as service is provided by employees, but deducted indetermining taxable profit either when contributions are paid to the pension/post-employment schemes or when post-employment benefits are paid. Deferred tax assets and liabilities are offset if there is a legally enforceable right to offset current tax liabilities and assets, and they relate toincometaxes levied by the same tax authority on the same taxable entity, or on different taxable entities, but they intend to settle current taxliabilities and assets on a net basis or their tax assets and liabilities will be realised simultaneously. Deferred tax assets/(liabilities) Net balance at | Deferred tax assets Deferred tax liabilities | | | | | 31 December | | | --- | --- | --- | --- | --- | --- | --- | | | 2021 | 2020 | 2021 | 2020 | 2021 | 2020 | | | £m | £m | £m | £m | £m | £m | Property, plant and equipment 42 33 (101) (103) (59) (70) Intangible assets 17 4 (2) – 15 4 Provisions and accruals 203 199 – – 203 199 Goodwill – – (302) (279) (302) (279) Pension/post-employment schemes: Deficits 430 845 – – 430 845 1 Additional contributions and other 228 251 – – 228 251 Share-based payments 28 19 – – 28 19 Financial instruments – – (9) (18) (9) (18) Other items 24 17 (19) (3) 5 14 Rolled over capital gains – – (13) (11) (13) (11) Capital losses carried forward 13 11 – – 13 11 Trading losses carried forward 6 7 – – 6 7 Deferred tax assets/(liabilities) 991 1,386 (446) (414) 545 972 Set off of tax (369) (414) 369 414 – – Net deferred tax assets/(liabilities) 622 972 (77) – 545 972 1. Includes deferred tax assets on US deferred compensation plans and relief to be claimed in future periods on UK pension contributions. 234 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 15. Deferred tax contin ued Movement in temporary differences during the year | | At | | Foreign | | | | | | | | | | At | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | 1 January | | | exchange | | Acquisitions | | Recognised | | Recognised | | 31 December | | | | | 2021 | adjustments | | | and disposals | | in income | | in equity | | | 2021 | | | | £m | | | £m | | £m | | £m | | £m | | | £m | Property, plant and equipment (70) (1) – 12 – (59) Intangible assets 4 – (3) 14 – 15 Provisions and accruals 199 1 – 3 – 203 Goodwill (279) (2) – (21) – (302) Pension/post-employment schemes: Deficits 845 (1) – 11 (425) 430 1 Additional contributions and other 251 1 – 6 (30) 228 Share-based payments 19 – – 7 2 28 Financial instruments (18) – – (3) 12 (9) Other items 14 – – (9) – 5 Rolled over capital gains (11) – – (2) – (13) Capital losses carried forward 11 – – 2 – 13 Trading losses carried forward 7 – – (1) – 6 972 (2) (3) 19 (441) 545 | | At | | Foreign | | | | | | | | | At | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | 1 January | | | exchange | | Acquisitions | | Recognised | | Recognised | | 31 December | | | | 2020 | adjustments | | | and disposals | | in income | | in equity | | | 2020 | | | £m | | | £m | | £m | | £m | | £m | | £m | Property, plant and equipment (49) 5 – (26) – (70) Intangible assets (1) – (3) 8 – 4 Provisions and accruals 194 (5) – 10 – 199 Goodwill (278) 9 – (10) – (279) Pension/post-employment schemes: Deficits 759 (1) – (11) 98 845 1 Additional contributions and other 97 (3) – 8 149 251 Share-based payments 20 – – – (1) 19 Financial instruments (7) – – (2) (9) (18) Other items (17) (1) – 32 – 14 Rolled over capital gains (10) – – (1) – (11) Capital losses carried forward 10 – – 1 – 11 Trading losses carried forward 8 – – (1) – 7 726 4 (3) 8 237 972 1. Includes deferred tax assets on US deferred compensation plans and relief to be claimed in future periods on UK pension contributions. Unrecognised deferred tax assets and liabilities Deferred tax assets have not been recognised in respect of the following items: 2021 2020 Unrecognised Unrecognised Gross deferred Gross deferred amount tax asset amount tax asset £m £m £m £m Deductible temporary differences, including tax credits 6 5 2 2 Capital losses carried forward 196 45 215 41 Trading and other losses carried forward 231 37 289 43 433 87 506 86 These assets have not been recognised as the incidence of future profits in the relevant countries and legal entities cannot be accurately predicted at this time. The Group has not recognised any deferred tax liability on temporary differences totalling £390m (2020 £467m) relating to potentially taxable unremitted earnings of overseas subsidiaries and equity accounted investments because the Group is in a position to control the timing of the reversal of the temporary differences and none are expected to reverse in the foreseeable future. BAE Systems plc Annual Report 2021 235 Financial statements ## Notes to the Group accounts continued ### 15. Deferred tax continued #### Changes in tax rates Both recognised and unrecognised UK deferred tax balances as at 31 December 2021 have been calculated at a rate of 22.8% (2020 19%). As at 31 December 2021, an increase in the UK current tax rate has been enacted, from 19% to 25% with effect from 1 April 2023. An adjustment has been made to reflect the fact that a portion of UK deferred tax balances are expected to unwind at 25%. This adjustment has been recorded as a non-recurring gain of £10m in the Consolidated income statement and as a gain of £88m in the Consolidated statement of comprehensive income. US deferred tax balances have not yet been adjusted for a potential increase in the US current tax rate, as an increase has not yet been passed into law. ### 16. Inventories Inventories are stated at the lower of cost, including all relevant overhead expenditure, and net realisable value. | | 2021 £m | 2020 £m | | --- | --- | --- | | Raw materials and consumables | 432 | 459 | | Work-in-progress | 312 | 320 | | Finished goods and goods for resale | 67 | 79 | | | **811** | **858** | The Group recognised £13m (2020 £21m) as a write down of inventories to net realisable value. ### 17. Current tax Current tax for the current and prior periods is recognised as a liability to the extent that it has not yet been settled, and as an asset to the extent that the amounts already paid exceed the amount due or the benefit of a tax loss can be carried back to recover current tax of a prior period. Current tax assets and liabilities are measured at the amount expected to be paid to or recovered from taxation authorities, using the rates that have been enacted or substantively enacted by the balance sheet date. | | 2021 £m | 2020 £m | | --- | --- | --- | | Tax provisions | (106) | (185) | | Research and development expenditure credits receivable | 81 | 56 | | Other | 69 | 63 | | | **44** | **(66)** | | Represented by: | | | | Current tax assets | 71 | 6 | | Current tax liabilities | (27) | (72) | | | **44** | **(66)** | Tax provisions of £106m (2020 £185m) are in respect of known tax issues, of which £50m (2020 £146m) relates to the UK. A provision of £94m has been released in 2021, following agreements reached regarding the exposure arising from the April 2019 European Commission decision regarding the UK's Controlled Foreign Company regime. ### 18. Cash and cash equivalents Cash and cash equivalents includes cash in hand, call and term deposits, investments in money market funds and other short-term liquid investments with original maturities of three months or less and which are subject to an insignificant risk of change in value. For the purpose of the cash flow statement, cash and cash equivalents also includes bank overdrafts that are repayable on demand and which form an integral part of the Group's cash management. | | 2021 £m | 2020 £m | | --- | --- | --- | | Cash | 903 | 919 | | Money market funds | 1,171 | 966 | | Short-term deposits | 843 | 883 | | | **2,917** | **2,768** | Cash and cash equivalents includes £83m (2020 £109m) which is subject to regulatory restrictions and is therefore not available for general use by other entities within the Group. 236 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 19. Business disposals Assets and liabilities of disposal groups classified as held for sale comprise assets and liabilities that are expected to be recovered primarily through sale rather than continuing use. Assets and liabilities of disposal groups classified as held for sale are measured at the lower of their carrying value and fair value less costs to sell. ### Business disposals during 2021 #### Advanced Electronics Company In December 2020, the Group's Overhaul and Maintenance Company (OMC) entered into a heads of terms for the sale of its 50% shareholding in Advanced Electronics Company Limited (AEC) to Saudi Arabian Military Industries, and was reported in the financial statements for the year ending 31 December 2020 as assets held for sale. The sale was completed on 23 February 2021. AEC was included in the Air segment. The gain recognised on disposal was as follows: | | 2021 £m | | --- | --- | | Cash received or receivable: | | | Cash | 182 | | Deferred consideration | 32 | | **Total disposal consideration** | **214** | | Carrying amount of net assets sold (see below) | (91) | | **Gain on sale before tax and reclassification of foreign currency translation reserve** | **123** | | Reclassification of foreign currency translation reserve | 9 | | **Gain on sale before tax** | **132** | | Attributable to: | | | Equity shareholders | 69 | | Non-controlling interests | 63 | | | **132** | | Net cash inflow arising on disposal: | | | Cash consideration received | 193 | | Less: cash and cash equivalents disposed | – | | | **193** | Of the total consideration receivable, £32m was deferred to be received over the 18 months following disposal. £11m of this contingent consideration was received in 2021 in relation to the sale of AEC, in addition to the cash received on disposal. The gain on disposal has been included in the profit for the period from continuing operations as a component of Other income, and recognised as a non-recurring item. The Group's share of the net assets of AEC as at the date of disposal was as follows: | | £m | | --- | --- | | Intangible assets including goodwill | 16 | | Property, plant and equipment | 8 | | Equity accounted investments | 67 | | **Net assets disposed** | **91** | #### BAE Systems Rokar International On 1 April 2021 BAE Systems agreed the sale of BAE Systems Rokar International Limited (Rokar) for $31m (£22m) net of cash held by Rokar. This resulted in consideration received of $47m (£34m), a disposal of net assets of $12m (£8m), including $16m (£12m) of cash, and a gain before tax on disposal of $35m (£26m) which has been included in the profit for the period from continuing operations as a component of Other income, and recognised as a non-recurring item. Rokar was within the Electronic Systems segment. BAE Systems plc Annual Report 2021 237 Financial statements # Notes to the Group accounts continued ## 19. Business disposals continued ### Business disposals during 2020 #### Silversky The divestment of the Silversky business completed on 2 November 2020. Silversky was included in the Cyber & Intelligence segment. The loss recognised on the disposal of Silversky was as follows: | | 2020 £m | | --- | --- | | Fair value of consideration received | 14 | | Net assets disposed | (51) | | Expenses incurred on disposal | (3) | | Cumulative currency translation gain | 35 | | **Loss on disposal** | **(5)** | | Net cash inflow arising on disposal: | | | Cash consideration received | 10 | | Less: cash and cash equivalents disposed | (5) | | | **5** | The loss on disposal was included in the profit for the year from continuing operations, as a component of operating costs (note 2). The Group's share of the net assets of Silversky as at the date of disposal was as follows: | | 2020 £m | | --- | --- | | Intangible assets | 32 | | Property, plant and equipment | 3 | | Deferred tax assets | 5 | | Trade, other and contract receivables | 7 | | Cash and cash equivalents | 5 | | Trade and other payables | (1) | | **Net assets disposed** | **51** | ## 20. Geographical analysis of assets ### Analysis of non-current assets by geographical location | Asset location | Notes | 2021 £m | 2020 £m | | --- | --- | --- | --- | | UK | | **4,222** | 4,153 | | Rest of Europe | | **1,475** | 1,047 | | US | | **9,713** | 9,849 | | Saudi Arabia | | **449** | 538 | | Australia | | **487** | 471 | | Rest of Asia and Pacific | | **5** | 1 | | | | **16,351** | 16,059 | | Other investments | | **76** | – | | Other receivables^{1} | 13 | **480** | 437 | | Post-employment benefit surpluses | 24 | **483** | 408 | | Other financial assets | 14 | **305** | 248 | | Deferred tax assets | 15 | **622** | 972 | | **Non-current assets** | | **18,317** | 18,124 | 1. Amounts relating to prepayments and accrued income have been included within the geographical split of assets. 2020 comparatives have been re-presented to exclude other receivables £437m from the geographical split of assets (£66m, £18m and £353m from the UK, Rest of Europe and US respectively), as IFRS 8 Operating Segments does not require assets of this type to be allocated geographically. 238 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 21. Loans and overdrafts Loans and overdrafts are recognised initially at fair value, less attributable transaction costs. Subsequent to initial recognition, loans and overdrafts are stated at amortised cost. Any difference between the amount initially recognised and the redemption value is recognised in the income statement over the period of the borrowings. 2021 2020 £m £m Loans and overdrafts US$500m 4.75% bond, repayable 2021 – 366 £400m 4.125% bond, repayable 2022 409 399 US$800m 3.8% bond, repayable 2024 594 584 US$750m 3.85% bond, repayable 2025 551 545 US$500m 7.5% bond, repayable 2027 382 364 US$1,300m 3.4% bond, repayable 2030 959 942 US$1,000m 1.9% bond, repayable 2031 738 724 US$400m 5.8% bond, repayable 2041 297 290 US$550m 4.75% bond, repayable 2044 401 393 US$1,000m 3% bond, repayable 2050 730 716 Overdrafts – 101 5,061 5,424 Maturity analysis Non-current 4,604 4,957 Current 457 467 5,061 5,424 US$500m of the US$800m 3.8% bond, repayable 2024, has been converted to a floating rate bond by utilising interest rate swaps that mature inOctober 2024 and give an effective rate during 2021 of 2.4%. The US$500m 7.5% bond, repayable 2027, was converted at issue to a sterling fixed rate bond by utilising cross-currency swaps and has an effective rate during 2021 of 7.7%. The US$400m 5.8% bond, repayable 2041, has been converted to a floating rate bond by utilising interest rate swaps that mature in October 2024 and give an effective rate during 2021 of 3.7%. US$1,237m of the US$1,300m 3.4% bond, repayable 2030, was converted at issue to a sterling fixed rate bond by utilising cross-currency swapsand has an effective rate during 2021 of 3.5%. BAE Systems plc Annual Report 2021 239 Financial statements ## Notes to the Group accounts continued ### 22. Contract liabilities Contract liabilities represent the obligation to transfer goods or services to a customer for which consideration has been received, or consideration is due, from the customer. | | 2021 £m | 2020 £m | | --- | --- | --- | | **Non-current** | | | | Contract liabilities | 519 | 524 | | **Current** | | | | Contract liabilities | 2,874 | 3,238 | | | **3,393** | **3,762** | Revenue recognised in the year includes £2,701m (2020 £3,150m) that was included in the opening contract liabilities balance. Non-current and current contract liabilities as at 1 January 2020 were £527m and £3,536m, respectively. The reduction in contract liabilities since 2020 is primarily due to utilisation of customer advances during the year. ### 23. Trade and other payables Trade and other payables are stated at amortised cost. US deferred compensation plan liabilities represent the present value of expected future payments required to settle the obligation to employees in accordance with IAS 19 Employee Benefits. | | 2021 £m | 2020 £m | | --- | --- | --- | | **Non-current** | | | | Accruals | 43 | 53 | | Amounts owed to equity accounted investments (note 32) | 7 | 11 | | Other taxes and social security costs | 1 | 36 | | Deferred income^{1} | 808 | 687 | | US deferred compensation plan liabilities | 375 | 350 | | Other payables | 14 | 27 | | | **1,248** | **1,164** | | **Current** | | | | Trade payables | 697 | 697 | | Amounts owed to equity accounted investments (note 32) | 923 | 1,156 | | Other taxes and social security costs | 197 | 536 | | Accruals | 2,458 | 2,128 | | Deferred income | 135 | 131 | | Other payables | 226 | 250 | | | **4,636** | **4,898** | 1. Includes £806m (2020 £678m) of funding received from the UK government for property, plant and equipment at Barrow-in-Furness, UK, relating to the Dreadnought submarine programme. 240 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 24. Post-employment benefits ### Pension schemes #### Defined contribution Obligations for contributions are recognised as an expense in the income statement as incurred. #### Defined benefit The cost of providing benefits is determined periodically by independent actuaries and charged to the income statement in the period in which those benefits are earned by the employees. Remeasurements, including actuarial gains and losses, are recognised in the Consolidated statement of comprehensive income in the period in which they occur. Past service costs resulting from a plan amendment or curtailment are recognised immediately in the income statement. The post-employment benefit surpluses and obligations recognised in the Group's balance sheet represent the fair value of scheme assets, less the present value of the defined benefit obligations calculated using a number of actuarial assumptions as set out on page 245. The bid values of scheme assets are not intended to be realised in the short term and may be subject to significant change before they are realised. The present values of scheme liabilities are derived from cash flow projections over long periods and are, therefore, inherently uncertain. IAS 19 Employee Benefits limits the measurement of a defined benefit surplus to the lower of the surplus in the defined benefit scheme and the asset ceiling. The asset ceiling is the present value of any economic benefits available in the form of refunds from the scheme or reductions in future contributions to the scheme. IFRIC 14 IAS 19 – The Limit on a Defined Benefit Asset, Minimum Funding Requirements and their Interaction, issued in 2007, provides an interpretation of the requirements of IAS 19, clarifying that a refund is available if the entity has an unconditional right to a refund in certain circumstances. The Group has applied IFRIC 14 and has determined that there is no limit on the recognition of the surpluses in its defined benefit pension schemes as at 31 December 2021. MBDA participates in the Group's defined benefit schemes and, as these are multi-employer schemes, the Group has allocated a share of the IAS 19 pension surpluses and deficits to MBDA based on the relative payroll contributions of active members or actual obligations where known. Whilst this methodology is intended to reflect a reasonable estimate of the share of the deficit, it may not accurately reflect the obligations of the participating employers. In the event that an employer who participates in the Group's pension schemes fails or cannot be compelled to fulfil its obligations as a participating employer, the remaining participating employers are obliged to collectively take on its obligations. The Group considers the likelihood of this event arising as remote. The Group's share of the IAS 19 pension deficit allocated to equity accounted investments is included in the balance sheet within equity accounted investments. ### Background #### Pension schemes BAE Systems plc operates pension schemes for the Group's qualifying employees in the UK, US and other countries. The principal schemes in the UK and US are funded defined benefit schemes, and the assets are held in separate trustee-administered funds. The largest funded defined benefit scheme is the Main Scheme which represents 93% (2020 93%) of the UK IAS 19 defined benefit obligation at 31 December 2021. The schemes in other countries are primarily defined contribution schemes. At 31 December 2021, the weighted average durations of the UK and US defined benefit pension obligations were 17 years (2020 18 years) and 12 years (2020 12 years), respectively. The split of the defined benefit pension liability on a funding basis between active, deferred and pensioner members for the Main Scheme and US schemes in aggregate is set out below: | | Active % | Deferred % | Pensioner % | | --- | --- | --- | --- | | Main Scheme^{1} | 31 | 21 | 48 | | US schemes^{2} | 30 | 18 | 52 | 1. Source: 31 October 2019 actuarial valuation reports. 2. Source: Annual updates of the US schemes as at 1 January 2022. BAE Systems plc Annual Report 2021 241 Financial statements # Notes to the Group accounts continued ## 24. Post-employment benefits continued ### Regulatory framework The funded UK schemes are registered and subject to the statutory scheme specific-funding requirements outlined in UK legislation, including the payment of levies to the Pension Protection Fund as set out in the Pension Act 2004. These schemes were established under trust and the responsibility for their governance lies jointly with the trustees and the Group. The funded US schemes are tax-qualified pension schemes regulated by the Pension Protection Act 2006 and insured by the Pension Benefit Guaranty Corporation (PBGC) up to certain limits. These schemes were established under, and are governed by, the US Employee Retirement Income Security Act 1974 and the BAE Systems Administrative Committee is a named fiduciary with the authority to manage their operation. ### Benefits The UK defined benefit schemes provide benefits to members in the form of a set level of pension payable for life based on members' final salaries. The benefits attract inflation-related increases both in deferment and payment. All UK defined benefit schemes are closed to new entrants, with benefits for new employees being provided through a defined contribution scheme. The Normal Retirement Age for the majority of active members of the Main Scheme is 65. Specific benefits applicable to members differ between schemes. Further details on the benefits provided by each scheme are provided on the BAE Systems Pensions website: baesystemspensions.com. A UK High Court judgment was delivered on 26 October 2018 concerning gender equalisation for the effect of Guaranteed Minimum Pensions (GMPs) for occupational pension schemes. A further UK High Court judgment was delivered on 20 November 2020 which rules that past cash-equivalent transfer values needed to account for gender equalisation for the effect of GMPs. In 2018 and 2020, a non-recurring past service cost was included in the income statement to reflect the expectation that the impact of GMP equalisation would increase the pension deficit in the balance sheet. In 2021, an allowance of £140m (2020 £145m) was included within the pension deficit (before allocation to equity accounted investments) to reflect these rulings. The US defined benefit schemes ceased to be final salary schemes in January 2013. The benefits accrued based on the final salaries of members at that point will become payable on retirement. The Normal Retirement Age for the largest scheme in the US is 65. ### Other post-employment benefits The Group operates a number of non-pension retirement benefit schemes, under which certain employees are eligible to receive benefits after retirement, the majority of which relate to the provision of medical benefits to retired employees of the Group's subsidiaries in the US. ## Funding ### Introduction Disclosures in respect of pension funding are provided below. Disclosures in respect of pension accounting under IAS 19 are provided on pages 245 to 252. The majority of the UK and US defined benefit pension schemes are funded by the Group's subsidiaries and equity accounted investments. The individual pension schemes' funding requirements are based on actuarial measurement frameworks set out in their funding policies. For funding valuation purposes, pension scheme assets are included at market value at the valuation date, whilst the liabilities are measured on an actuarial funding basis using the projected unit credit method and discounted to their present value based on prudent assumptions set by the trustees following consultation with scheme actuaries. The funding valuations are performed by professionally qualified independent actuaries and include assumptions which differ from the actuarial assumptions used for IAS 19 accounting purposes shown on page 245. The purpose of the funding valuations is to design funding plans which ensure that the schemes have sufficient funds available to meet future benefit payments. 242 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 24. Post-employment benefits continued Funding contin ued UK valuations Funding valuations of the Group’s UK defined benefit pension schemes are performed every three years. Following the merger of several of theGroup’s UK pension schemes in October 2019, the Company and trustees agreed to carry out an early triennial funding valuation for the Main Scheme as at 31 October 2019. The results of the most recent triennial valuations are shown below. These valuations and, where necessary, deficit recovery plans were agreed with the trustees and certified by the scheme actuaries after consultation with The Pensions Regulator in the UK. | | | Main | | Other | | --- | --- | --- | --- | --- | | | Scheme as at | | schemes as at | | | 31 October 2019 | | | 31 March 2020 | | | | | £bn | | £bn | Market value of assets 20.6 2.1 Present value of liabilities (22.5) (2.0) Funding (deficit)/surplus (1.9) 0.1 Percentage of accrued benefits covered by the assetsat the valuation date 92% 105% The valuations in 2019 and 2020 were determined using the following mortality assumptions: Life expectancy of a male currently aged 65 (years) 86 – 89 Life expectancy of a female currently aged 65 (years) 87 – 91 Life expectancy of a male currently aged 45 (years) 87 – 91 Life expectancy of a female currently aged 45 (years) 89 – 92 The discount rate assumptions used in the 2019 and 2020 valuations were directly based on prudent levels of expected returns for the assets held by theschemes, reflecting the planned investment strategies and maturity profiles of each scheme. The discount rates are curves which provide adifferent rate for each year into the future. The inflation assumptions were derived using data from the Bank of England which is based on the difference between the yields on index- linked and fixed interest long-term government bonds. The inflation assumption is a curve which provides a different rate for each year into thefuture. The funding valuations resulted in a significantly lower deficit than under IAS 19, largely due to lower liabilities reflecting the higher discount rate assumption. Under IAS 19, the discount rate for accounting purposes is based on third-party AA corporate bond yields whereas, for funding valuation purposes, the discount rate is based on a prudent level of expected returns from the broader and mixed types of investments reflected in the schemes’ investment strategies, which are expected overall to yield higher returns than bonds. The 2019 funding agreement is underpinned by a contingency plan, which included a commitment by the Group to a further £50m of deficit funding in each of 2021 and 2022 into the Main Scheme prior to the next triennial valuation in the event that the scheme funding level were tofall below pre-determined parameters. In addition, the Group would be required to pay £187m in respect of the Main Scheme if the funding levelwere to fall significantly and were to remain at or below those levels for nine months. There have been no changes to the contributions or benefits, as set out in the rules of the schemes, for pension scheme members as a result ofthe new funding valuations. The results of future triennial valuations and associated funding requirements will be impacted by a number of factors, including the future performance of investment markets and anticipated members’ longevity. US valuations The Group’s US pension schemes are valued annually, with the latest valuations performed as at 1 January 2021. BAE Systems plc Annual Report 2021 243 Financial statements # Notes to the Group accounts continued ## 24. Post-employment benefits continued ### Funding continued #### Contributions Under the terms of the trust deeds of the UK schemes, the Group is required to have a funding plan determined at the conclusion of the triennial funding valuations. Equity accounted investments make regular contributions to the schemes in which they participate in line with the schedule of contributions and are allocated a share of deficit funding contributions. In 2021, total employer contributions to the Group's pension schemes were £324m (2020 £1,701m), including amounts funded by equity accounted investments of £39m (2020 £133m), and included approximately £90m (2020 £1,422m) of deficit recovery payments in respect of the UK schemes, and no contributions (2020 £70m) in respect of the US schemes. The Group does not plan to make any cash contributions to the US pension schemes in 2022. #### Risk management The defined benefit pension schemes expose the Group to actuarial risks, including market (investment) risk, interest rate risk, inflation risk and longevity risk. | Risk | Mitigation | | --- | --- | | **Market (investment) risk** Asset returns may not move in line with the liabilities and may be subject to volatility. | The investment portfolios are highly diversified, investing in a wide range of assets, in order to reduce the exposure of the total portfolio to a materially adverse impact from a single security or type of security. To reduce volatility, certain assets are held in a matching portfolio, which largely consists of index-linked bonds, gilts and swaps, designed to mirror movements in corresponding liabilities. Some 45% (2020 42%) of the Group's pension scheme assets are held in equities and pooled investment vehicles due to the higher expected level of return over the long term. Some of the Group's pension schemes use derivative financial instruments as part of their investment strategy to manage the level of market risk. The Main Scheme has an equity option strategy protecting £2.9bn of assets against a significant fall in equity markets, in line with the prior year. The strategy also caps the upside if equity markets increase more than an agreed percentage. | | **Interest rate risk** Liabilities are sensitive to movements in interest rates, with lower interest rates leading to an increase in the valuation of liabilities. | In addition to investing in bonds as part of the matching portfolio, the UK schemes invest in interest rate swaps to reduce the exposure to movements in interest rates. The swaps are held with several banks to reduce counterparty risk. The current level of interest rate protection is expressed as a hedge ratio of 79.0% (2020 72.4%). The discount rate assumptions set as part of the UK funding valuations directly reflect the expected returns on assets held by the schemes and provide a natural hedge against interest rate risk. The planned investment strategy, which is reflected in the discount rate and liability calculation, is for the schemes to increase their investments in bonds or other assets which match the liabilities as the schemes mature. Under the UK funding valuations, the Group expects the schemes to be fully hedged against interest rate movements following a five-year transition period to the planned investment strategy. | | **Inflation risk** Liabilities are sensitive to movements in inflation, with higher inflation leading to an increase in the valuation of liabilities. | In addition to investing in index-linked bonds as part of the matching portfolio, the UK schemes invest in long-term inflation swaps to reduce the exposure to movements in inflation. The swaps are held with several banks to reduce counterparty risk. The current level of inflation protection is expressed as a hedge ratio of 107.8% (2020 100.2%). The Group's US schemes are not indexed with inflation. The UK funding valuations provide a natural hedge against inflation movements within the discount rate. The Group is already fully hedged against inflation movements and, under the planned investment strategy, the Group aims to maintain a fully hedged position. In 2014, the Main Scheme implemented a pension increase exchange to allow retired members to elect for a higher current pension in exchange for foregoing certain rights to future pension increases. | | **Longevity risk** Liabilities are sensitive to life expectancy, with increases in life expectancies leading to an increase in the valuation of liabilities. | Longevity adjustment factors are used in the majority of the UK pension schemes in order to adjust the pension benefits payable so as to share the cost of people living longer with employees. In 2013, with the agreement of the Company, the trustees of the 2000 Plan, Royal Ordnance Pension Scheme and Shipbuilding Industries Pension Scheme entered into arrangements with Legal & General to insure against longevity risk for the current pensioner population, covering a total of £4.4bn of pension scheme liabilities. These arrangements reduce the funding volatility relating to increasing life expectancy. This longevity risk cover with Legal & General remains in place following the merger of the 2000 Plan and SIPS into the Main Scheme. | 244 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 24. Post-employment benefits continued ### IAS 19 accounting The disclosures below relate to post-retirement benefit schemes in the UK, US and other countries which are accounted for as defined benefit schemes in accordance with IAS 19. #### Principal actuarial assumptions The assumptions used are estimates chosen from a range of possible actuarial assumptions which, due to the long-term nature of the obligation covered, may not necessarily occur in practice. | | UK | | | US | | | | --- | --- | --- | --- | --- | --- | --- | | | 2021 | 2020 | 2019 | 2021 | 2020 | 2019 | | **Financial assumptions** | | | | | | | | Discount rate – past service (%) | **1.9** | 1.4 | 2.1 | **2.8** | 2.4 | 3.1 | | Discount rate – future service (%) | **1.9** | 1.6 | 2.2 | **2.8** | 2.4 | 3.1 | | Retail Prices Index (RPI) inflation (%) | **3.1** | 2.7 | 2.8 | n/a | n/a | n/a | | Rate of increase in salaries (%) | **3.1** | 2.7 | 2.8 | n/a | n/a | n/a | | Rate of increase in deferred pensions (%) | **2.4/3.1** | 2.0/2.7 | 2.0/2.8 | n/a | n/a | n/a | | Rate of increase in pensions in payment (%) | **1.7 – 3.7** | 1.6 – 3.6 | 1.5 – 3.6 | n/a | n/a | n/a | | **Demographic assumptions** | | | | | | | | Life expectancy of a male currently aged 65 (years) | **86 – 89** | 86 – 88 | 87 – 88 | **87** | 87 | 87 | | Life expectancy of a female currently aged 65 (years) | **88 – 90** | 88 – 90 | 88 – 90 | **89** | 89 | 89 | | Life expectancy of a male currently aged 45 (years) | **86 – 90** | 87 – 89 | 88 – 89 | **87** | 87 | 87 | | Life expectancy of a female currently aged 45 (years) | **89 – 91** | 89 – 91 | 89 – 91 | **89** | 88 | 89 | #### Discount rate The discount rate assumptions are derived through discounting the projected benefit payments using a third-party AA corporate bond yield curve to produce a single equivalent discount rate for the UK and US territories. This inherently captures the maturity profile of the expected benefit payments. For the UK territory, the discount rate used for future service differs from that used for past service as it only uses the cash flows relating to active members, which have a different duration. Further information on the duration of the schemes is detailed on page 241. #### Retail Prices Index (RPI) and Consumer Prices Index (CPI) inflation In the UK, the inflation assumptions are derived by reference to the difference between the yields on index-linked and fixed-interest long-term government bonds, or advice from the local actuary depending on the available information. Index-linked government bonds contain a premium that investors are willing to pay to mitigate the risk that RPI inflation is higher than expected. To account for this, the RPI assumption includes an inflation risk premium deduction. As a consequence of RPI reform announcements the Company has reviewed its approach to setting inflation assumptions. The inflation risk premium deduction has been set at 0.55% per annum (2020 0.5%) and the CPI assumption has been set at 0.7% per annum (2020 0.7%) lower than RPI. The resulting RPI assumption is 3.1% per annum and the CPI assumption is 2.4% per annum. The 0.7% per annum RPI-CPI differential is a weighted average of a 1% per annum differential pre-2030 and 0.1% per annum differential post-2030; this reflects the anticipated change to the RPI index from 2030. In the US, inflation assumptions are not relevant as the Group's US pension schemes are not indexed with inflation. #### Rate of increase in salaries The rate of increase in salaries for the UK schemes is assumed to be RPI inflation of 3.1% (2020 RPI inflation of 2.7%), plus a promotional scale. From 1 January 2013, employees in the US schemes no longer accrue salary-related benefits. #### Rate of increase in deferred pensions The rate of increase in deferred pensions for the UK schemes is based on CPI inflation of 2.4% (2020 CPI inflation of 2.0%), with the exception of the legacy 2000 Plan, which is based on RPI inflation of 3.1% (2020 RPI inflation of 2.7%). For all UK schemes, the rate of increase in deferred pensions is subject to inflation caps. #### Rate of increase in pensions in payment The rate of increase in pensions in payment differs between UK schemes. Different tranches of the schemes' benefits increase at rates based on either RPI or CPI inflation, and some are subject to an inflation cap. With the exception of two smaller schemes, the rate of increase in pensions in payment is based on RPI inflation. #### Life expectancy For its UK pension schemes, the Group has used the Self-Administered Pension Schemes S3 mortality tables based on year of birth (as published by the Institute of Actuaries) for both pensioner and non-pensioner members in conjunction with the results of an investigation into the actual mortality experience of scheme members and information on the demographic profile of the scheme's membership. In addition, to allow for future improvements in longevity, the Continuous Mortality Investigation 2020 tables (published by the Institute of Actuaries) have been used (in 2020, the Continuous Mortality Investigation 2019 tables were used), with an assumed long-term rate of future annual mortality improvements of 1.0% per annum (2020 1.0%), an initial rate adjustment parameter ('A') of 0.25% (2020 0.25%) in conjunction with a smoothing parameter ('Sx') of 7 for all members (2020 7). The Group has chosen to apply a weighting to the 2020 data in recognition of the abnormal excess deaths as a result of COVID-19. No further adjustments have been made to improvements expected in future years. The impacts of COVID-19 will continue to be monitored and assessed at future reporting dates. BAE Systems plc Annual Report 2021 245 Financial statements ## Notes to the Group accounts continued ### 24. Post-employment benefits continued #### IAS 19 accounting continued For the majority of the US schemes, the mortality tables used at 31 December 2021 are a blend of the fully generational PRI-2012 White Collar table and the PRI-2012 Blue Collar table, both projected using Scale MP-2021. #### US healthcare schemes The latest valuations of the principal schemes, covering retiree medical and life insurance schemes in certain US subsidiaries, were performed by independent actuaries as at 1 January 2021. These valuations were rolled forward to reflect the information at 31 December 2021. The method of accounting for these is similar to that used for defined benefit pension schemes. Long-term healthcare cost is assumed to increase at 4.8% per annum (2020 4.8%). This is based on an assumed increase in 2021 of 6.1% for pre-retirement and 5.4% for post-retirement, with both rates then reducing to 4.5% by 2029 and remaining at 4.5% per annum each year thereafter. #### Summary of movements in post-employment benefit obligations | | UK £m | US and other £m | Total £m | | --- | --- | --- | --- | | Total net IAS 19 deficit at 1 January 2021 | (4,362) | (483) | (4,845) | | Actual return on assets excluding amounts included in net interest expense | 2,274 | 49 | 2,323 | | Decrease in liabilities due to changes in financial assumptions | 1,145 | 220 | 1,365 | | Decrease/(increase) in liabilities due to changes in demographic assumptions | 74 | (8) | 66 | | Experience losses | (1,109) | (8) | (1,117) | | Contributions in excess of service cost | 64 | (9) | 55 | | Past service cost – plan amendments | (3) | – | (3) | | Net interest expense | (56) | (10) | (66) | | Transfer to other investments^{1} | – | (56) | (56) | | Foreign exchange adjustments | – | 6 | 6 | | Movement in other schemes | – | (14) | (14) | | **Total net IAS 19 deficit at 31 December 2021** | **(1,973)** | **(313)** | **(2,286)** | | Allocated to equity accounted investments | 162 | – | 162 | | **Group's share of net IAS 19 deficit excluding Group's share of amounts allocated to equity accounted investments at 31 December 2021** | **(1,811)** | **(313)** | **(2,124)** | 1. £56m of the US pension assets have been reclassified as Other Investments. These relate to deferred compensation schemes which hold assets associated with the US unfunded pension obligation. 246 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 24. Post-employment benefits continued ### IAS 19 accounting continued #### Amounts recognised on the balance sheet The table below shows a reconciliation between the gross assets and liabilities of the Group's UK, US and other post-employment benefit schemes and the amounts recognised on the Group's balance sheet after allocation to equity accounted investments. | | 2021 | | | | Total £m | | --- | --- | --- | --- | --- | --- | | | UK defined benefit pension schemes £m | US and other pension schemes £m | US healthcare schemes £m | Saudi Arabia end of service benefit £m | | | Present value of unfunded obligations | (152) | (131) | – | (153) | (436) | | Present value of funded obligations | (28,768) | (4,512) | (150) | – | (33,430) | | Fair value of scheme assets | 26,947 | 4,415 | 218 | – | 31,580 | | Total net IAS 19 (deficit)/surplus | (1,973) | (228) | 68 | (153) | (2,286) | | Allocated to equity accounted investments | 162 | – | – | – | 162 | | **Group's share of net IAS 19 (deficit)/surplus** | **(1,811)** | **(228)** | **68** | **(153)** | **(2,124)** | | Represented by: | | | | | | | Post-employment benefit surpluses | 383 | 32 | 68 | – | 483 | | Post-employment benefit obligations | (2,194) | (260) | – | (153) | (2,607) | | | **(1,811)** | **(228)** | **68** | **(153)** | **(2,124)** | | **Group's share of net IAS 19 deficit of equity accounted investments** | **(69)** | **–** | **–** | **–** | **(69)** | The US unfunded pension obligations have associated assets held in deferred compensation schemes with a fair value of £61m which are shown in Other Investments. The funds held in these trusts can be used solely for the satisfaction of the unfunded obligations. | | 2020 | | | | Total £m | | --- | --- | --- | --- | --- | --- | | | UK defined benefit pension schemes £m | US and other pension schemes £m | US healthcare schemes £m | Saudi Arabia end of service benefit £m | | | Present value of unfunded obligations | (152) | (146) | – | (132) | (430) | | Present value of funded obligations | (29,239) | (4,748) | (157) | – | (34,144) | | Fair value of scheme assets | 25,029 | 4,482 | 218 | – | 29,729 | | Total net IAS 19 (deficit)/surplus | (4,362) | (412) | 61 | (132) | (4,845) | | Allocated to equity accounted investments | 360 | – | – | – | 360 | | **Group's share of net IAS 19 (deficit)/surplus** | **(4,002)** | **(412)** | **61** | **(132)** | **(4,485)** | | Represented by: | | | | | | | Post-employment benefit surpluses | 308 | 36 | 64 | – | 408 | | Post-employment benefit obligations | (4,310) | (448) | (3) | (132) | (4,893) | | | **(4,002)** | **(412)** | **61** | **(132)** | **(4,485)** | | **Group's share of net IAS 19 deficit of equity accounted investments** | **(143)** | **–** | **–** | **–** | **(143)** | Total cumulative actuarial losses recognised in equity since the transition to IFRS are £4.1bn (2020 £6.5bn). BAE Systems plc Annual Report 2021 247 Financial statements ## Notes to the Group accounts continued ### 24. Post-employment benefits continued #### IAS 19 accounting continued Changes in the fair value of scheme assets before allocation to equity accounted investments | | UK defined benefit pension schemes £m | US and other pension schemes £m | US healthcare schemes £m | Saudi Arabia end of service benefit £m | Total £m | | --- | --- | --- | --- | --- | --- | | Value of scheme assets at 1 January 2020 | 22,765 | 4,703 | 219 | – | 27,687 | | *Interest income* | 487 | 156 | 7 | – | 650 | | *Actual return on assets excluding amounts included in interest income* | 1,146 | 572 | 8 | – | 1,726 | | Actual return on assets | 1,633 | 728 | 15 | – | 2,376 | | *Contributions by employer* | 1,621 | 80 | 1 | 14 | 1,716 | | *Contributions by employer in respect of employee salary sacrifice arrangements* | 72 | – | – | – | 72 | | Total contributions by employer | 1,693 | 80 | 1 | 14 | 1,788 | | Members' contributions | 6 | – | – | – | 6 | | Administrative expenses | (14) | (7) | (1) | – | (22) | | Settlements | – | (615) | – | – | (615) | | Business acquisitions | – | 7 | – | – | 7 | | Foreign exchange translation | – | (144) | (7) | – | (151) | | Benefits paid | (1,054) | (270) | (9) | (14) | (1,347) | | Value of scheme assets at 31 December 2020 | 25,029 | 4,482 | 218 | – | 29,729 | | *Interest income* | 345 | 103 | 5 | – | 453 | | *Actual return on assets excluding amounts included in interest income* | 2,274 | 49 | 2 | – | 2,325 | | Actual return on assets | 2,619 | 152 | 7 | – | 2,778 | | *Contributions by employer* | 313 | 11 | 1 | 14 | 339 | | *Contributions by employer in respect of employee salary sacrifice arrangements* | 71 | – | – | – | 71 | | Total contributions by employer | 384 | 11 | 1 | 14 | 410 | | Members' contributions | 6 | – | – | – | 6 | | Administrative expenses | (12) | (7) | (1) | – | (20) | | Transfer to other investments | – | (56) | – | – | (56) | | Foreign exchange translation | – | 39 | 2 | – | 41 | | Benefits paid | (1,079) | (206) | (9) | (14) | (1,308) | | **Value of scheme assets at 31 December 2021** | **26,947** | **4,415** | **218** | **–** | **31,580** | 248 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 24. Post-employment benefits continued ### IAS 19 accounting continued #### Assets of defined benefit pension schemes | | 2021 | | | | | | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | UK | | | US and other | | | Total | | | | | Quoted £m | Unquoted £m | Total £m | Quoted £m | Unquoted £m | Total £m | Quoted £m | Unquoted £m | Total £m | | Equities: | | | | | | | | | | | UK^{1} | 1,188 | – | 1,188 | – | – | – | 1,188 | – | 1,188 | | Overseas | 3,468 | – | 3,468 | – | – | – | 3,468 | – | 3,468 | | Pooled investment vehicles^{2} | 257 | 8,058 | 8,315 | 990 | – | 990 | 1,247 | 8,058 | 9,305 | | Fixed interest securities: | | | | | | | | | | | UK gilts | 1,253 | – | 1,253 | – | – | – | 1,253 | – | 1,253 | | UK corporates | 1,850 | 3,171 | 5,021 | – | – | – | 1,850 | 3,171 | 5,021 | | Overseas government | 67 | – | 67 | 305 | – | 305 | 372 | – | 372 | | Overseas corporates | 1,152 | 50 | 1,202 | 2,990 | – | 2,990 | 4,142 | 50 | 4,192 | | Index-linked securities: | | | | | | | | | | | UK gilts | 3,397 | – | 3,397 | – | – | – | 3,397 | – | 3,397 | | UK corporates | – | 1,270 | 1,270 | – | – | – | – | 1,270 | 1,270 | | Property^{3} | – | 1,967 | 1,967 | – | 42 | 42 | – | 2,009 | 2,009 | | Derivatives^{4} | – | (1,317) | (1,317) | – | (3) | (3) | – | (1,320) | (1,320) | | Cash: | | | | | | | | | | | Sterling | 931 | 91 | 1,022 | – | – | – | 931 | 91 | 1,022 | | Foreign currency | 14 | 4 | 18 | 91 | – | 91 | 105 | 4 | 109 | | Other | 39 | 37 | 76 | – | – | – | 39 | 37 | 76 | | **Total** | **13,616** | **13,331** | **26,947** | **4,376** | **39** | **4,415** | **17,992** | **13,370** | **31,362** | | | 2020 | | | | | | | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | UK | | | US and other | | | Total | | | | | Quoted £m | Unquoted £m | Total £m | Quoted £m | Unquoted £m | Total £m | Quoted £m | Unquoted £m | Total £m | | Equities: | | | | | | | | | | | UK^{1} | 1,037 | – | 1,037 | – | – | – | 1,037 | – | 1,037 | | Overseas | 2,763 | – | 2,763 | – | – | – | 2,763 | – | 2,763 | | Pooled investment vehicles^{2} | 835 | 6,582 | 7,417 | 1,132 | 2 | 1,134 | 1,967 | 6,584 | 8,551 | | Fixed interest securities: | | | | | | | | | | | UK gilts | 1,294 | – | 1,294 | – | – | – | 1,294 | – | 1,294 | | UK corporates | 1,900 | 3,176 | 5,076 | – | – | – | 1,900 | 3,176 | 5,076 | | Overseas government | 49 | – | 49 | 32 | – | 32 | 81 | – | 81 | | Overseas corporates | 1,931 | – | 1,931 | 3,135 | – | 3,135 | 5,066 | – | 5,066 | | Index-linked securities: | | | | | | | | | | | UK gilts | 2,734 | 456 | 3,190 | – | – | – | 2,734 | 456 | 3,190 | | UK corporates | – | 1,047 | 1,047 | – | – | – | – | 1,047 | 1,047 | | Property^{3} | – | 1,858 | 1,858 | – | 102 | 102 | – | 1,960 | 1,960 | | Derivatives^{4} | – | (1,602) | (1,602) | – | – | – | – | (1,602) | (1,602) | | Cash: | | | | | | | | | | | Sterling | 792 | 34 | 826 | – | – | – | 792 | 34 | 826 | | Foreign currency | 22 | 6 | 28 | 79 | – | 79 | 101 | 6 | 107 | | Other | – | 115 | 115 | – | – | – | – | 115 | 115 | | **Total** | **13,357** | **11,672** | **25,029** | **4,378** | **104** | **4,482** | **17,735** | **11,776** | **29,511** | 1. Includes £5m (2020 £6m) of the Company's own ordinary shares. 2. Primarily invested in private markets and exchange traded funds. The amounts classified as unquoted primarily comprise investments in private markets, with the majority held in infrastructure, alternatives and direct funds, valued in accordance with International Private Equity and Venture Capital Valuation Guidelines. 3. Valued on the basis of open market value at the end of the year determined in accordance with the Royal Institution of Chartered Surveyors' Appraisal and Valuation Standards and the Practice Note contained therein. Includes £263m (2020 £257m) of property occupied by Group companies. 4. Includes equity protection options, forward foreign exchange contracts, futures, and interest rate, inflation and longevity swaps. In addition, the total derivative figures shown are net of £464m (2020 £393m) of repurchase agreements. The valuations are based on valuation techniques using underlying market data and discounted cash flows. BAE Systems plc Annual Report 2021 249 Financial statements ## Notes to the Group accounts continued ### 24. Post-employment benefits continued #### IAS 19 accounting continued ##### Longevity swap The Group holds longevity insurance contracts for some of its UK defined benefit pension schemes. These provide long-term protection and income to the underlying pension scheme in the event that insured members live longer than expected. The value of the longevity insurance contracts held by the Group are calculated by an actuary. At a high level, they are measured by discounting the difference between the projected fixed and floating cash flows payable under the contracts, excluding the value of future projected fees. The significant assumptions used for this valuation are the discount rate and mortality assumptions; fair values for these assumptions are advised by an actuary based on external data and characteristics of the insured member population. As at 31 December 2021, the longevity swap valuation leads to a negative adjustment to the assets which reflects that experience to date on the contracts has been higher than expected deaths. ##### Changes in the present value of the defined benefit obligations before allocation to equity accounted investments | | UK defined benefit pension schemes £m | US and other pension schemes £m | US healthcare schemes £m | Saudi Arabia end of service benefit £m | Total £m | | --- | --- | --- | --- | --- | --- | | Defined benefit obligations at 1 January 2020 | (26,876) | (5,317) | (168) | (105) | (32,466) | | *Current service cost* | (209) | (13) | (1) | (19) | (242) | | *Contributions by employer in respect of employee salary sacrifice arrangements* | (72) | – | – | – | (72) | | Total current service cost | (281) | (13) | (1) | (19) | (314) | | Members' contributions | (6) | – | – | – | (6) | | Past service cost – plan amendments | (9) | (1) | 8 | – | (2) | | Actuarial loss due to changes in financial assumptions | (3,067) | (474) | (13) | (11) | (3,565) | | Actuarial gain/(loss) due to changes in demographic assumptions | – | 7 | 8 | (4) | 11 | | Experience gains/(losses) | 344 | (12) | – | (7) | 325 | | Interest expense | (550) | (165) | (5) | (4) | (724) | | Settlements | – | 679 | – | – | 679 | | Business acquisitions | – | (7) | – | – | (7) | | Foreign exchange translation | – | 139 | 5 | 4 | 148 | | Benefits paid | 1,054 | 270 | 9 | 14 | 1,347 | | Defined benefit obligations at 31 December 2020 | (29,391) | (4,894) | (157) | (132) | (34,574) | | *Current service cost* | (237) | (13) | (1) | (23) | (274) | | *Contributions by employer in respect of employee salary sacrifice arrangements* | (71) | – | – | – | (71) | | Total current service cost | (308) | (13) | (1) | (23) | (345) | | Members' contributions | (6) | – | – | – | (6) | | Past service cost – plan amendments | (3) | – | (1) | – | (4) | | Actuarial gain/(loss) due to changes in financial assumptions | 1,145 | 220 | 6 | (2) | 1,369 | | Actuarial gain/(loss) due to changes in demographic assumptions | 74 | (8) | 1 | – | 67 | | Experience losses | (1,109) | (8) | (2) | (6) | (1,125) | | Interest expense | (401) | (113) | (4) | (4) | (522) | | Foreign exchange translation | – | (33) | (1) | – | (34) | | Benefits paid | 1,079 | 206 | 9 | 14 | 1,308 | | **Defined benefit obligations at 31 December 2021** | **(28,920)** | **(4,643)** | **(150)** | **(153)** | **(33,866)** | 250 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 24. Post-employment benefits continued ### IAS 19 accounting continued Amounts recognised in the income statement after allocation to equity accounted investments | | 2021 | | | | | --- | --- | --- | --- | --- | | | UK defined benefit pension schemes £m | US and other pension schemes £m | Other schemes £m | Total £m | | **Included in operating costs:** | | | | | | Current service cost | (217) | (13) | (24) | (254) | | Past service cost – plan amendments | (3) | – | (1) | (4) | | | (220) | (13) | (25) | (258) | | Administrative expenses | (11) | (7) | (1) | (19) | | | (231) | (20) | (26) | (277) | | **Included in net finance costs:** | | | | | | Net interest expense on post-employment benefit obligations | (52) | (10) | (3) | (65) | | **Group defined benefit schemes included in share of results of equity accounted investments:** | | | | | | Group's share of equity accounted investments' operating costs | (10) | – | – | (10) | | Group's share of equity accounted investments' finance costs | (2) | – | – | (2) | | | 2020 | | | | | | UK defined benefit pension schemes £m | US and other pension schemes £m | Other schemes £m | Total £m | | **Included in operating costs:** | | | | | | Current service cost | (191) | (13) | (20) | (224) | | Past service cost – plan amendments | (1) | (1) | 8 | 6 | | | (192) | (14) | (12) | (218) | | Settlements | – | 64 | – | 64 | | Guaranteed Minimum Pension equalisation charge | (7) | – | – | (7) | | Administrative expenses | (13) | (7) | (1) | (21) | | | (212) | 43 | (13) | (182) | | **Included in net finance costs:** | | | | | | Net interest expense on post-employment benefit obligations | (57) | (9) | (2) | (68) | | **Group defined benefit schemes included in share of results of equity accounted investments:** | | | | | | Group's share of equity accounted investments' operating costs | (9) | – | – | (9) | | Group's share of equity accounted investments' finance costs | (2) | – | – | (2) | The Group incurred a charge of £246m (2020 £242m) in relation to defined contribution schemes for employees. BAE Systems plc Annual Report 2021 251 Financial statements ## Notes to the Group accounts conti nued ### 24. Post-employment benefits continued IAS 19 accounting continued Sensitivity analysis The sensitivity information has been derived using scenario analysis from the actuarial assumptions as at 31 December 2021 and keeping allother assumptions as set out on page 245. The pension schemes hold a number of unquoted pooled investment vehicles, which are investments in private markets. These are valued based on latest available valuation reports, and as noted on page 199, these valuations are subject to estimation uncertainty as their valuation techniques incorporate a number of assumptions, including those associated with the COVID-19 pandemic and the impact of climate change. Should these funds’ actual valuations at 31 December 2021 be on average 2% different to those assumed, this would result in a £0.2bn (2020 £0.1bn) change in the valuation of the assets. Financial assumptions The estimated impact of changes in the discount rate and inflation assumptions on the defined benefit pension obligation, together with the estimated impact on scheme assets, is shown in the table below. The estimated impact on scheme assets takes into account the Group’s risk management activities in respect of interest rate and inflation risk. The sensitivity analysis on the defined benefit obligation is measured on anIAS19 accounting basis and, therefore, does not reflect the natural hedging in the discount rate used for funding valuation purposes. | (Increase)/decrease | | | Increase/(decrease) | | | | --- | --- | --- | --- | --- | --- | | | | 1 | | | 1 | | inpension obligation | | | inscheme assets | | | | | £bn | | | £bn | | Discount rate: 0.1 percentage point increase 0.5 (0.3) 0.1 percentage point decrease (0.6) 0.3 0.5 percentage point increase 2.5 (1.5) 0.5 percentage point decrease (2.9) 1.7 Inflation: 0.1 percentage point increase (0.5) 0.2 0.1 percentage point decrease 0.5 (0.2) 0.5 percentage point increase (1.5) 1.1 0.5 percentage point decrease 1.5 (1.0) 1.0 percentage point increase (3.0) 2.4 1.0 percentage point decrease 2.9 (1.9) 1. Before allocation to equity accounted investments. Demographic assumptions Changes in the life expectancy assumption, including the benefit of longevity swap arrangements (see longevity risk on page 244), wouldhave thefollowing effect on the total net IAS 19 deficit: (Increase)/decrease 1 innet deficit £bn Life expectancy: One-year increase (1.4) One-year decrease 1.4 1. Before allocation to equity accounted investments. 252 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 25. Provisions A provision is recognised in the balance sheet when the Group has a present legal or constructive obligation as a result of a past event, it is probable that an outflow of economic benefits will be required to settle the obligation and the amount has been reliably estimated. If the effect is material, provisions are determined by discounting the expected future cash flows at an appropriate pre-tax discount rate. ### Warranties and after-sales service Warranties and after-sales service are provided in the normal course of business with provisions for associated costs being made based on an assessment of future claims with reference to past experience. A provision for warranties is recognised when the underlying products and services are sold. The provision is based on historical warranty data and a weighting of possible outcomes against their associated probabilities. ### Reorganisations A provision for restructuring is recognised when the Group has approved a detailed and formal restructuring plan, and the restructuring has either commenced or has been announced to those affected. The costs associated with the reorganisation programmes are supported by detailed plans and based on previous experience as well as other known factors. Future operating costs are not provided for. ### Legal, contractual and environmental The Group holds provisions for expected legal, contractual and environmental costs that it expects to incur over an extended period. Management exercises judgement to determine the amount of these provisions. Provision is made for known issues based on past experience of similar items and other known factors. Each provision is considered separately and the amount provided reflects the best estimate of the most likely amount, being the single most likely amount in a range of possible outcomes. | | Warranties and after-sales service £m | Reorganisations £m | Legal, contractual and environmental £m | Other £m | Total £m | | --- | --- | --- | --- | --- | --- | | Non-current | 51 | 2 | 275 | 58 | 386 | | Current | 55 | 36 | 173 | 27 | 291 | | At 1 January 2021 | 106 | 38 | 448 | 85 | 677 | | Created | 51 | 24 | 99 | 27 | 201 | | Utilised | (34) | (21) | (69) | (9) | (133) | | Transfer to other balance sheet categories | – | – | (1) | – | (1) | | Released | (12) | (4) | (91) | (28) | (135) | | Net present value adjustments | – | – | (2) | – | (2) | | Foreign exchange adjustments | (2) | 1 | 1 | – | – | | **At 31 December 2021** | **109** | **38** | **385** | **75** | **607** | | Represented by: | | | | | | | Non-current | 57 | – | 249 | 25 | 331 | | Current | 52 | 38 | 136 | 50 | 276 | | | **109** | **38** | **385** | **75** | **607** | BAE Systems plc Annual Report 2021 253 Financial statements # Notes to the Group accounts continued ## 25. Provisions continued ### Warranties and after-sales service Warranty and after-sales service provisions are generally utilised within three years post-delivery. Whilst actual events could result in potentially significant differences to the quantum, but not the timing, of the outflows in relation to the provisions, management has reflected current knowledge in assessing the provision levels. ### Reorganisations Reorganisation provisions are generally utilised within one to three years. There is limited volatility around the timing and amount of the ultimate outflows related to these provisions. Other debtors includes £9m (2020 £9m) which is reimbursable in respect of reorganisation costs. ### Legal, contractual and environmental Reflecting the inherent uncertainty within many legal proceedings, the amount of the outflows could differ significantly from the amount provided. While the timing of the outflows is also uncertain, the Group expects these provisions to be utilised over a period of approximately 25 years. ### Other There are no individually significant provisions included within other provisions. ## 26. Share capital and other reserves ### Share capital | | Equity | Non-equity | Total | | --- | --- | --- | --- | | Ordinary shares of 2.5p each | Special Share of £1 | | Number of shares m | Nominal value £m | Number of shares | Nominal value £ | Nominal value £m | | **Issued and fully paid** | | | | | | | At 1 January 2020 and 31 December 2020 | 3,467 | 87 | 1 | 1 | 87 | | Purchase of own shares | (63) | (2) | – | – | (2) | | **At 31 December 2021** | **3,404** | **85** | **1** | **1** | **85** | ### Special Share One Special Share of £1 in the Company is held on behalf of the Secretary of State for Business, Energy and Industrial Strategy (the Special Shareholder). Certain provisions of the Company's Articles of Association cannot be amended without the consent of the Special Shareholder. These provisions include the requirement that no foreign person, or foreign persons acting in concert, can have more than a 15% voting interest in the Company, the requirement that the majority of the directors are British, and the requirement that the Chief Executive and any executive Chairman are British. The effect of these requirements can also be amended by regulations made by the directors and approved by the Special Shareholder. The Special Shareholder may require the Company at any time to redeem the Special Share at par or to convert the Special Share into one ordinary voting share. The Special Shareholder is entitled to receive notice of and to attend general meetings and class meetings of the Company's shareholders, but has no voting right, nor other rights, other than to speak in relation to any business in respect of the Special Share. ### Treasury shares As at 31 December 2021, 236,807,031 (2020 248,995,549) ordinary shares of 2.5p each with an aggregate nominal value of £5,920,176 (2020 £6,224,889) were held in treasury. During 2021, 12,188,518 (2020 12,902,202) treasury shares were used to satisfy awards and options under the Share Incentive Plan, International Share Incentive Plan, Performance Share Plan, the Performance Shares and Restricted Shares elements of the Long-Term Incentive Plan, and the Executive Share Option Plan. ### BAE Systems ESOP Trust The Group has an ESOP discretionary trust to administer the share plans and to acquire Company shares, using funds loaned by the Group, to meet commitments to Group employees. Dividend waivers were in operation for shares within the ESOP Trust, other than those owned beneficially by the participants, for the dividends paid in the year. At 31 December 2021, the ESOP held 7,022,472 (2020 5,946,770) ordinary shares of 2.5p each, with a market value of £39m (2020 £29m). The shares held by the ESOP are recorded at cost and deducted from retained earnings until such time as the shares vest unconditionally to employees. A dividend waiver was also in operation for the dividends paid in the year over shares within the Company's share incentive plan trusts other than those shares owned beneficially by the participants. ### Own shares held Own shares held, including treasury shares and shares held by BAE Systems Employee Share Option Plan (ESOP) Trust, are recognised as a deduction from retained earnings. 254 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 26. Share capital and other reserves continued ### Equity dividends Equity dividends on ordinary share capital are recognised as a liability on the date that the shareholder's right to receive payment is established. This is generally the date that the dividend is declared. | | 2021 £m | 2020 £m | | --- | --- | --- | | Interim 13.8p dividend per ordinary share paid in the year in respect of the year ended 31 December 2019 | – | 444 | | Final 14.3p dividend per ordinary share paid in the year (2020 nil) | **461** | – | | Interim 9.9p dividend per ordinary share paid in the year (2020 9.4p) | **316** | 302 | | | **777** | 746 | After the balance sheet date, the directors proposed a final dividend of 15.2p per ordinary share. The dividend, which is subject to shareholder approval, will be paid on 1 June 2022 to shareholders registered on 22 April 2022. The ex-dividend date is 21 April 2022. Shareholders who do not at present participate in the Company's Dividend Reinvestment Plan and wish to receive the final dividend in shares rather than cash should complete a mandate form for the Dividend Reinvestment Plan and return it to the registrars no later than 11 May 2022. ### Other reserves | | Merger reserve £m | Statutory reserve £m | Revaluation reserve £m | Capital redemption reserve £m | Hedging reserve £m | Translation reserve £m | Total £m | | --- | --- | --- | --- | --- | --- | --- | --- | | At 1 January 2020 | 4,589 | 202 | 10 | 3 | 62 | 1,290 | 6,156 | | Subsidiaries: | | | | | | | | | Currency translation on foreign currency net investments | – | – | – | – | – | (210) | (210) | | Reclassification of cumulative currency translation reserve on disposal of subsidiary | – | – | – | – | – | (35) | (35) | | Reclassification of cumulative currency translation reserve on partial disposal of subsidiary | – | – | – | – | – | (22) | (22) | | Net amounts credited to hedging reserve | – | – | – | – | 37 | – | 37 | | Equity accounted investments (net of tax) | – | – | – | – | (5) | 2 | (3) | | At 31 December 2020 | 4,589 | 202 | 10 | 3 | 94 | 1,025 | 5,923 | | Subsidiaries: | | | | | | | | | Currency translation on foreign currency net investments | – | – | – | – | – | 27 | 27 | | Reclassification of cumulative currency translation reserve on disposal of subsidiary | – | – | – | – | – | (9) | (9) | | Net amounts debited to hedging reserve | – | – | – | – | (52) | – | (52) | | Equity accounted investments (net of tax) | – | – | – | – | 9 | (13) | (4) | | Purchase of own shares | – | – | – | 2 | – | – | 2 | | **At 31 December 2021** | **4,589** | **202** | **10** | **5** | **51** | **1,030** | **5,887** | BAE Systems plc Annual Report 2021 255 Financial statements # Notes to the Group accounts continued ## 26. Share capital and other reserves continued ### Merger reserve The merger reserve arose on the acquisition of the Marconi Electronic Systems (MES) business by British Aerospace in 1999 to form BAE Systems, and represents the amount by which the fair value of the shares issued by British Aerospace as consideration exceeded their nominal value. ### Statutory reserve Under Section 4 of the British Aerospace Act 1980, this reserve may only be applied in paying up unissued shares of the Company to be allotted to members of the Company as fully paid bonus shares. ### Revaluation reserve The revaluation reserve relates to the revaluation at fair value of the net assets of the BVT joint venture previously held as an equity accounted investment on the acquisition of the remaining 45% interest in 2009. ### Capital redemption reserve The capital redemption reserve represents the cumulative nominal value of the Company's ordinary shares repurchased and subsequently cancelled. ### Hedging reserve The hedging reserve comprises the effective portion of the cumulative net change in the fair value of cash flow hedging instruments related to hedged transactions that have not yet occurred. ### Translation reserve The translation reserve comprises all foreign currency differences arising from the translation of the financial statements of foreign operations. ### Capital The Group funds its operations through a mixture of equity funding and debt financing, including bank and capital market borrowings. At 31 December 2021, the Group's capital was £7,617m (2020 £4,827m), which comprises total equity of £7,668m (2020 £4,921m), excluding amounts accumulated in equity relating to cash flow hedges of £51m (2020 £94m). Net debt (excluding lease liabilities) was £2,160m (2020 £2,718m). The capital structure of the Group reflects the judgement of the directors of an appropriate balance of funding required. The Group's policy is to maintain an investment grade credit rating and ensure operating flexibility, whilst: - meeting its pension obligations; - investing in research and technology and pursuing other organic investment opportunities; - paying dividends in line with the Group's policy of long-term sustainable cover of around two times underlying earnings (see note 7); - making accelerated returns of capital to shareholders when the balance sheet allows and when the return from doing so is in excess of the Group's Weighted Average Cost of Capital; and - investing in value-enhancing acquisitions, where market conditions are right and where they deliver on the Group's strategy. ### Purchase of own shares On 29 July 2021 the Company announced the details of a share buyback programme to repurchase up to £500m of its own shares over the following 12 months. As part of the buyback programme, it was agreed that should a better alternative use for the Company's cash reserves be identified, the share buyback programme would be ceased, and the money instead used for the alternative purpose. Therefore, when the Company issued a mandate to the brokers to purchase shares on their behalf, the mandates were structured such that they could be revoked at any point. As such, no financial liability has been recognised for shares not yet purchased under the programme. During 2021, 63,272,873 shares have been repurchased for a total price, including transaction costs, of £371m. These shares have been subsequently cancelled, with the nominal value of shares cancelled deducted from share capital against the capital redemption reserve. The share buyback programme was completed on 2 February 2022. In total 87,525,938 shares were repurchased under the scheme for a total price, including transaction costs, of £503m. 256 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 27. Cash flow from operating activities 1 Reconciliation of net cash flow from operating activities to free cash flow 2021 2020 £m £m Net cash flow from operating activities 2,447 1,166 Add back Taxation paid 234 251 Purchase of property, plant and equipment, and investment property (366) (385) Purchase of intangible assets (96) (92) Purchase of non-current other investment (15) – Proceeds from sale of property, plant and equipment, and investment property 271 68 Proceeds from sale of non-current other investments – 19 Equity accounted investment funding (3) (2) Principal element of lease payments and receipts (207) (226) Net capital expenditure, lease principal amounts and financial investment (416) (618) Dividends received from equity accounted investments 57 27 1 Operating business cash flow 2,322 826 Taxation paid (234) (251) Interest paid, net of interest received (224) (208) 1 Free cash flow 1,864 367 1 Reconciliation of operating business cash flow to net cash flow from operating activities by reporting segment Deduct Add back Dividends received Net capital expenditure, Operating business fromequity accounted lease principal amounts Net cash flow from 1 | cashflow | | investments | | and financial investment | | | operating activities | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | 2021 | 2020 | 2021 | 2020 | | 2021 | 2020 | | 2021 | 2020 | | £m | £m | £m | £m | | £m | £m | | £m | £m | Electronic Systems 774 580 (3) (2) 180 189 951 767 Platforms & Services (US) 287 382 (6) (13) 70 89 351 458 Air 628 718 (44) (8) 159 207 743 917 Maritime 321 243 (4) (4) 140 78 457 317 Cyber & Intelligence 173 221 – – 29 30 202 251 HQ 139 (1,318) – – (162) 25 (23) (1,293) 2,322 826 (57) (27) 416 618 2,681 1,417 2 Taxation paid (234) (251) Net cash flow from operating activities 2,447 1,166 1. Operating business cash flow and Free cash flow are alternative performance measures defined in the Financial glossary on page 78, they are presented here to provide additional information on performance to the user, and to reconcile to the equivalent IFRS measure. 2. Taxation is managed on a Group-wide basis. BAE Systems plc Annual Report 2021 257 Financial statements ## Notes to the Group accounts conti nued ### 28. Movement in assets and liabilities arising from financing activities Non-cash movements Non-cash movements | | As at | | Cash | | Foreign | | Fair value | | | As at | | Cash | | Foreign | | Fair value | | | As at | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | 1January | | (inflow)/ | | | exchange | | andother | | 31December | | (inflow)/ | | exchange | | | andother | | 31December | | | | 2020 | outflow | | movements | | | movements | | | 2020 | outflow | | movements | | | movements | | | 2021 | | | £m | | £m | | | £m | | £m | | £m | | £m | | | £m | | £m | | £m | Non-current assets 1 Other financial assets 117 – – 20 137 – – (23) 114 Current assets 1 Other financial assets 7 (59) – 61 9 (61) – 60 8 124 (59) – 81 146 (61) – 37 122 Non-current liabilities Loans (3,020) (2,666) 254 475 (4,957) – (42) 395 (4,604) Lease liabilities (1,116) – 15 81 (1,020) – (8) (55) (1,083) 1 Other financial liabilities (6) – – (180) (186) – – 56 (130) 3 Cash collateral (20) 2 – – (18) 18 – – – Current liabilities 2 Loans (377) 506 (12) (483) (366) 367 (1) (457) (457) Lease liabilities (238) 236 (5) (229) (236) 217 1 (194) (212) 1 Other financial liabilities (58) 43 (2) (28) (45) 149 – (137) (33) (4,835) (1,879) 250 (364) (6,828) 751 (50) (392) (6,519) (1,938) 690 Interest paid 227 247 Equity dividends paid 746 777 Purchase of own shares – 368 Dividends paid to non-controlling interests 19 202 Partial disposal of shareholding insubsidiaryundertaking (27) (28) Net cash flow from financingactivities (973) 2,256 1. Excluding cash flow hedges, for which the cash flow is reported within cash flow from operating activities. See note 14 for an analysis of other financial assets and liabilities. 2. Movements in loans exclude overdrafts. 3. Reported inother payables. ### 29. Net debt (excluding lease liabilities) Components of net debt (excluding lease liabilities) 2021 2020 Notes £m £m Cash and cash equivalents 18 2,917 2,768 Debt-related derivative financial instrument assets – non-current 14 114 137 Loans – non-current 21 (4,604) (4,957) Loans and overdrafts – current 21 (457) (467) Debt-related derivative financial instrument liabilities – non-current 14 (130) (182) Debt-related derivative financial instrument liabilities – current 14 – (17) 1 Net debt (excluding lease liabilities) (2,160) (2,718) 1. Net debt (excluding lease liabilities) is an alternative performance measure defined in the Financial glossary on page 78, it is presented here to provide additional information on performance to the user, and to reconcile to the equivalent IFRS measure. 258 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ### 30. Fair value measurement # Fair value of financial instruments Certain of the Group's financial instruments are held at fair value. The fair value of a financial instrument is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the balance sheet date. The fair values of financial instruments held at fair value have been determined based on available market information at the balance sheet date, and the valuation methodologies listed below: - the fair values of forward foreign exchange contracts are calculated by discounting the contracted forward values and translating at the appropriate balance sheet rates; - the fair values of both interest rate and cross-currency swaps are calculated by discounting expected future principal and interest cash flows and translating at the appropriate balance sheet rates; and - the fair values of money market funds are calculated by multiplying the net asset value per share by the investment held at the balance sheet date. Due to the variability of the valuation factors, the fair values presented at 31 December may not be indicative of the amounts the Group will realise in the future. # Fair value hierarchy The fair value measurement hierarchy is as follows: - Level 1 – Quoted prices (unadjusted) in active markets for identical assets or liabilities; - Level 2 – Inputs other than quoted prices included within level 1 that are observable for the asset or liability, either directly (i.e. as prices) or indirectly (i.e. derived from prices); and - Level 3 – Inputs for the asset or liability that are not based on observable market data (i.e. unobservable inputs). # Carrying amounts and fair values of certain financial instruments | | Notes | 2021 | | 2020 | | | --- | --- | --- | --- | --- | --- | | | | Carrying amount £m | Fair value £m | Carrying amount £m | Fair value £m | | **Financial instruments measured at fair value:** | | | | | | | **Non-current** | | | | | | | Other investments at fair value through profit and loss | | 76 | 76 | – | – | | Other financial assets | 14 | 305 | 305 | 248 | 248 | | Other financial liabilities | 14 | (302) | (302) | (282) | (282) | | **Current** | | | | | | | Other financial assets | 14 | 194 | 194 | 189 | 189 | | Money market funds | 18 | 1,171 | 1,171 | 966 | 966 | | Other financial liabilities | 14 | (214) | (214) | (181) | (181) | # Financial instruments not measured at fair value: | **Non-current** | | | | | | | --- | --- | --- | --- | --- | --- | | Loans | 21 | (4,604) | (5,045) | (4,957) | (5,737) | | **Current** | | | | | | | Cash and cash equivalents (excluding money market funds) | 18 | 1,746 | 1,746 | 1,802 | 1,802 | | Loans and overdrafts | 21 | (457) | (462) | (467) | (479) | All of the financial assets and liabilities measured at fair value are classified as level 2 using the fair value hierarchy, except for money market funds, which are classified as level 1. There were no transfers between levels during the year. Financial assets and liabilities in the Group's Consolidated balance sheet are either held at fair value or their carrying value approximates to fair value, with the exception of loans, which are held at amortised cost. The fair value of loans presented in the table above is derived from market prices, classified as level 1 using the fair value hierarchy. BAE Systems plc Annual Report 2021 259 Financial statements ## Notes to the Group accounts conti nued ### 31. Share-based payments The Group has granted equity-settled share options and Long-Term Incentive Plan arrangements which are measured at fair value at the date ofgrant using an option pricing model. The fair value is expensed on a straight-line basis over the vesting period, based on the Group’s estimate ofthe number of shares that will actually vest. Details of the terms and conditions of each share-based payment plan are given in the Annual remuneration report on pages 145 to 167. Expense in year 2021 2020 £m £m Executive Share Option Plan 8 6 Performance Share Plan 32 20 Restricted Share Plan 8 8 48 34 The Group also incurred a charge of £44m (2020 £40m) in respect of the equity-settled all-employee Free Shares and Matching Partnership Shares elements of the Share Incentive Plan. Executive Share Option Plan 2021 2020 | | | Weighted | | | | | Weighted | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | average | | | | | average | | | | Number of | | exercise | | | Number of | | exercise | | | | | shares | | price | | | shares | | price | | | | ’000 | | | £ | | ’000 | | | £ | Outstanding at the beginning of the year 43,561 5.20 38,979 5.36 Granted during the year 10,995 5.02 11,4 02 4.86 Exercised during the year (2,695) 4.68 (2,368) 4.77 Expired during the year (4,581) 5.49 (4,452) 5.91 Outstanding at the end of the year 47,280 5.16 43,561 5.20 Exercisable at the end of the year 17,279 5.57 15,297 5.36 2021 2020 Range of exercise price of outstanding options (£) 3.01 – 6.49 3.01 – 6.49 Weighted average remaining contracted life (years) 7 7 Weighted average fair value of options granted (£) 1.00 0.96 Performance Share Plan and Restricted Share Plan Performance Share Plan Restricted Share Plan | | 2021 | | 2020 | | 2021 | | 2020 | | --- | --- | --- | --- | --- | --- | --- | --- | | Number of | | Number of | | Number of | | Number of | | | | shares | | shares | | shares | | shares | | | ’000 | | ’000 | | ’000 | | ’000 | Outstanding at the beginning of the year 25,878 22,495 4,974 4,406 Granted during the year 9,387 9,525 2,304 2,222 Exercised during the year (2,108) (1,767) (1,523) (1,270) Expired during the year (5,242) (4,375) (342) (384) Outstanding at the end of the year 27,915 25,878 5,413 4,974 Exercisable at the end of the year 387 471 – – 2021 2020 2021 2020 Weighted average remaining contracted life (years) 5 5 5 5 Weighted average fair value of awards granted (£) 4.90 4.38 5.01 4.86 The exercise price for the Performance Share Plan and Restricted Share Plan is £nil (2020 £nil). 260 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 31. Share-based payments continued Details of options/awards granted in the year The fair value of equity-settled options/awards granted in the year has been measured using the weighted average inputs below and the following valuation models: Executive Share Option Plan – Binomial Performance Share Plan – Monte Carlo Restricted Share Plan – Dividend valuation 2021 2020 Range of share price at date of grant (£) 5.00 – 5.68 4.85 – 5.14 Expected option/award life (years) 3 – 10 3 – 10 Volatility (%) 28 27 – 28 Risk free interest rate (%) 0.1 – 0.2 (0.1) – 0.1 Volatility was calculated with reference to the Group’s weekly share price volatility, after allowing for dividends, for the greater of 30 weeks or for the period until vest date. The average share price in the year was £5.33 (2020 £5.24). ### 32. Related party transactions The Group has a related party relationship with its directors and key management personnel (see below), equity accounted investments (note 12) and pension schemes (note 24). Transactions with related parties occur in the normal course of business, are priced on an arm’s-length basis and settled onnormal trade terms. The more significant transactions are disclosed below: | | Sales to | | Purchases from | | | Amounts owed by | | | Amounts owed to | | | Management | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | --- | | | | | | | | | | | | | 1 | | 1 | | | related parties | | related parties | | | related parties | | | related parties | | | recharges | | | | 2021 | 2020 | | 2021 | 2020 | | 2021 | 2020 | | 2021 | 2020 | 2021 | 2020 | | Related party | £m | £m | | £m | £m | | £m | £m | | £m | £m | £m | £m | Advanced Electronics Company Limited 1 49 – 142 – – – 43 – – Eurofighter Jagdflugzeug GmbH 1,068 897 402 439 26 58 74 83 – – FADEC International LLC 54 45 – – – – – – – – MBDA SAS 23 24 114 188 2 8 837 1,024 19 19 Panavia Aircraft GmbH 32 35 46 42 1 1 – 1 – – BAE Systems Pension Funds TrusteesLimited – – 16 20 – – 207 212 – – Other 12 17 8 – 5 2 19 16 – – 1,190 1,067 586 831 34 69 1,137 1,379 19 19 1. Also relates to disclosures under IAS 24 Related Party Disclosures, for the parent company, BAE Systems plc. At 31 December 2021, £907m (2020£967m) was owed byBAESystems plc and £230m (2020 £412m) by other Group subsidiaries. The Group also manages certain treasury functions on behalf of some of their equity accounted investments. This includes entering into foreign exchange derivatives on their behalf. As at 31 December 2021 we entered into forward contracts to purchase 250m euros, sell $20m, and purchase £4m worth of other currencies (2020 purchase 296m euros, sell $14m and purchase £4m worth of other currencies) on their behalf. No service fee is charged for these arrangements. The Group considers key management personnel, as defined under IAS 24 Related Party Disclosures, to be the members of the Group’s Executive Committee and the Company’s non-executive directors. Fuller disclosures on directors’ remuneration are set out in the Annual remuneration report on pages 145 to 167. Total emoluments for directors and key management personnel charged to the Consolidated income statement were: 2021 2020 £’000 £’000 Short-term employee benefits 17,755 15,518 Post-employment benefits 1,121 1,072 Share-based payments 8,940 5,877 27,816 22,467 BAE Systems plc Annual Report 2021 261 Financial statements ## Notes to the Group accounts continued ### 33. Contingent liabilities Contingent liabilities are potential future cash outflows which are either not probable or cannot be measured reliably. The Group has entered into a number of guarantee and performance bond arrangements in the normal course of business and regards these as insurance contracts. Various Group undertakings are parties to legal actions and claims which arise in the normal course of business. Provision is made for any amounts that the directors consider may become payable (see note 25). The Group believes that any significant liability in respect of its guarantees and performance bond arrangements, and legal actions and claims not already provided for, is remote. ### 34. Acquisitions of businesses #### Businesses acquired during 2021 On 4 March 2021, the Group acquired 100% of the share capital of Pulse Power and Measurement Limited for a consideration of £21m. The provisional net assets acquired, including intangible assets identified, have been valued at £11m, resulting in a provisional goodwill of £10m. On 14 September 2021, the Group acquired 100% of the share capital of In-Space Missions Limited for a fair value consideration of £15m. The provisional net assets acquired, including intangible assets identified, have been valued at £5m, resulting in a provisional goodwill of £10m. #### Businesses acquired during 2020 All fair values provisionally disclosed in 2020 have been finalised, with no change in the provisional values recognised. On 2 May 2020, the Group completed the acquisition of the assets and liabilities of Raytheon Technologies Corporation's Airborne Tactical Radios business (Airborne Tactical Radios business), for consideration of £216m. The acquisition augments the Group's Electronic Systems portfolio in airborne communications with broad-spectrum, multi-band, multi-channel radios that feature robust anti-jamming and encryption capabilities. On 31 July 2020, the Group completed the acquisition of the assets and liabilities of the Collins Aerospace Military Global Positioning System business (Military GPS business) from Raytheon Technologies Corporation, for consideration of £1,472m. The acquisition augments the Group's Electronic Systems portfolio, adding technology that advances the Group's existing GPS and precision-guided munitions capabilities. On 19 August 2020, the Group completed the acquisition of Techmodal Limited (Techmodal), a UK-based consultancy and digital services company, for consideration of £38m. Techmodal has a number of long-term contracts with the UK Ministry of Defence and complements the Group's existing digital, data and technical service capabilities. The results and financial position of all three acquired businesses have been consolidated from the date of acquisition. The evaluation of the fair values of the assets and liabilities acquired have been finalised, and there have been no changes to the fair values disclosed in the 2020 Annual Report. #### Purchase consideration and fair value of net assets acquired The fair values of the assets and liabilities acquired and the consideration for all acquisitions in 2020 were as follows: | | Airborne Tactical Radios business £m | Military GPS business £m | Techmodal £m | Total £m | | --- | --- | --- | --- | --- | | Identifiable intangible assets | 84 | 468 | 14 | 566 | | Property, plant and equipment | 8 | 20 | – | 28 | | Right-of-use assets | 3 | 9 | – | 12 | | Inventories | 4 | 53 | – | 57 | | Trade, other and contract receivables | 13 | 28 | 3 | 44 | | Cash and cash equivalents | – | – | 5 | 5 | | Lease liabilities | (3) | (9) | – | (12) | | Trade and other payables | (8) | (17) | (4) | (29) | | Deferred tax | – | – | (3) | (3) | | Provisions | (3) | (1) | – | (4) | | Net identifiable assets acquired | 98 | 551 | 15 | 664 | | Goodwill arising | 118 | 921 | 23 | 1,062 | | **Net assets acquired** | **216** | **1,472** | **38** | **1,726** | | Satisfied by: | | | | | | Cash | 216 | 1,472 | 23 | 1,711 | | Contingent consideration | – | – | 15 | 15 | | **Total consideration** | **216** | **1,472** | **38** | **1,726** | The contingent consideration due for Techmodal has been finalised, and resulted in a gain being recognised in non-recurring items of £6m. 262 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ### 34. Acquisition of businesses continued The net outflow of cash in respect of the purchase of businesses in 2020 was as follows: | | Airborne Tactical Radios business £m | Military GPS business £m | Techmodal £m | Total £m | | --- | --- | --- | --- | --- | | Cash consideration | 216 | 1,472 | 23 | 1,711 | | Cash and cash equivalents acquired | – | – | (5) | (5) | | **Net cash outflow in respect of the purchase of businesses** | **216** | **1,472** | **18** | **1,706** | The goodwill recognised on these acquisitions is primarily attributable to expected synergies. Coupled with the Group's Electronic Systems sector, the Airborne Tactical Radios business will enhance its positions in airborne communications with broad spectrum, multi-band, multi-channel radios including battle-proven, robust, anti-jam and encryption capabilities. The Airborne Tactical Radios business brings both complementary waveform expertise and a long-trusted partnership with the US Army. The Group will achieve operating synergies by expanding capacity in its existing Fort Wayne facility for all Airborne Tactical Radios manufacturing operations. Forecasted revenue synergy opportunities include the capture of future radio new starts and upgrade programmes with enhanced competitiveness through the ability to offer a more complete radio system with a broad selection of communication and networking waveforms. The Military GPS business has key products with a production horizon of five to ten years and the business is well positioned to capture follow-on work with the M-Code transition. Congress has mandated all Department of Defense systems utilise M-Code for new procurements which include GPS requirements. The integration of the Military GPS business presents opportunities for integrating BAE Systems' M-Code GPS into such systems. There are further synergy opportunities in core technology, including in the areas of advanced microelectronics packaging, signal processing, gun-hardened electronics and core components such as oscillators. Goodwill of at least £1,028m is expected to be deductible for tax purposes. No impairment losses have been recognised in respect of goodwill in the year ended 31 December 2020. The acquisitions contributed £181m to the Group's revenue and £53m to the Group's underlying EBITA$^{1}$ between the date of acquisition and 31 December 2020. If each acquisition had been completed on 1 January 2020, the Group's revenue would have been £19,480m, and underlying EBITA$^{1}$ would have been £2,207m for the year ended 31 December 2020. Acquisition-related costs of £20m have been included as a non-recurring item in operating costs in the Consolidated income statement for the year ended 31 December 2020. Contractual cash flows on trade, other and contract receivables are expected to be collected in full. No contingent liabilities have been recognised or require disclosure in respect of these acquisitions. 1. Underlying EBITA was an alternative performance measure used in 2020, defined as operating profit excluding amortisation and impairment of intangible assets, finance costs and taxation expense of equity accounted investments. In 2021, the business moved to the use of Underlying EBIT as defined in the Financial glossary on page 78. The prior year comparative has not been restated within this note to reflect this change, as the impact on EBIT and EBITA are materially the same. ### 35. Events after the reporting period There were no events after the reporting period which would materially impact the balances reported in this Annual Report. BAE Systems plc Annual Report 2021 263 Financial statements ## Notes to the Group accounts conti nued ### 36. Information about related undertakings In accordance with Section 409 of the Companies Act 2006, a full list of subsidiaries and equity accounted investments as at 31 December 2021 isdisclosed below. Unless otherwise stated, the Group’s shareholding represents ordinary shares held indirectly by BAE Systems plc, the year end is 31 December and the address of the registered office is Warwick House, PO Box 87, Farnborough Aerospace Centre, Farnborough, Hampshire GU146YU, United Kingdom. For companies incorporated outside of the UnitedKingdom, the country of incorporation isshown in the address. No subsidiary undertakings have been excluded from the consolidation. Subsidiaries – wholly-owned | | 1 | | | 1 | | --- | --- | --- | --- | --- | | 4219 Lafayette, LLC | | BAE Systems (Poland) Sp. z o.o. | BAE Systems Applied Intelligence LLC | | | 4219 Lafayette Center Drive, Chantilly VA 20151, | | ul. Abp. A. Baraniaka 88, 61-131 Poznan, Poland | 5th Floor, Suite 1920, 256 Franklin Street, Boston MA 02110, | | | UnitedStates | | | UnitedStates | | BAE Systems (Projects) Limited 2 Aerosystems International Limited BAE Systems Applied Intelligence Malaysia Sdn Bhd BAE Systems (Property Investments) Limited 10 Fleet Place, London EC4M 7QS, United Kingdom Level 25, Menara Hong Leong, No. 6 Jalan Damanlela, BAE Systems (Vehicles and Equipment) Limited BukitDamansara, 50490 KualaLumpur, Malaysia Alvis Limited 3,6 BAE Systems Applied Intelligence New Zealand 3 BAE Systems (Warwick House) Limited (In Strike Off) Alvis Pension Scheme Trustees Limited 3 Limited BAE Systems 2000 Pension Plan Trustees Limited c/o Russell McVeagh, Vero Centre, 48 Shortland Street, Alvis Vickers Limited 7 Auckland Central, 1140, New Zealand 3 BAE Systems AB Armstrong Whitworth Aircraft Limited Box 5676, SE-114 86 Stockholm, Sweden BAE Systems Applied Intelligence Pty Limited ASC Shipbuilding Pty Limited 3 Level 12, 16-20 Bridge Street, Sydney NSW 2000, Australia BAE Systems Al Diriyah Programme Limited Bldg 01, Level 2, 640 Mersey Road North, Osborne SA5017, Australia BAE Systems Applied Intelligence (Asia Pacific) BAE Systems Australia (Electronic Systems) Pty PteLimited Limited Australian Marine Engineering Corporation United Square, 101 Thomson Road, #25-03/04, 307591, Level 2, 80 Flinders Street, Adelaide SA5000, Australia (Finance)Pty Limited Singapore BAE Systems Australia (NSW) Holdings Pty Limited Level 2, 80 Flinders Street, Adelaide SA5000, Australia 3 BAE Systems Applied Intelligence (Australia) Level 2, 80 Flinders Street, Adelaide SA5000, Australia Avro International Aerospace Limited PtyLimited BAE Systems Australia (NSW) Pty Limited 3 BAE Systems (Al Diriyah C4i) Limited Level 12, 16-20 Bridge Street, Sydney NSW 2000, Australia Level 2, 80 Flinders Street, Adelaide SA5000, Australia BAE Systems (Canada) Inc. BAE Systems Applied Intelligence (Belgium) NV BAE Systems Australia Datagate Pty Limited 220 Laurier Avenue West, Suite 1200, Ottawa ON Geldenaaksebaan 329, B-3001, Heverlee, Leuven, Belgium Level 2, 80 Flinders Street, Adelaide SA5000, Australia K1P5Z9,Canada BAE Systems Applied Intelligence (Connect) A/S BAE Systems Australia Defence Holdings Pty Limited BAE Systems (Combat and Radar Systems) Limited c/o Kromann Reumert, Sundkrogsgade 5, Copenhagen East, Level 2, 80 Flinders Street, Adelaide SA5000, Australia Charter Place, 23/27 Seaton Place, St. Helier, Jersey JE1 1JY 2100, Denmark 8 2 BAE Systems Australia Defence Pty Limited BAE Systems (Consultancy Services) Limited BAE Systems Applied Intelligence (GCS) Limited Level 2, 80 Flinders Street, Adelaide SA5000, Australia 10 Fleet Place, London EC4M 7QS, United Kingdom Surrey Research Park, Guildford, Surrey GU2 7YP, 3 | | | UnitedKingdom | BAE Systems Australia Holdings Limited | | --- | --- | --- | --- | | BAE Systems (Corporate Air Travel) Limited | | | Level 2, 80 Flinders Street, Adelaide SA 5000, Australia | | | 3 | BAE Systems Applied Intelligence (Germany) GmbH | | | BAE Systems (CS&SI – Qatar) Limited | | | BAE Systems Australia Limited | Mainzer Landstrasse 50, 60325 Frankfurt am Main, Germany BAE Systems (Defence Systems) Limited Level 2, 80 Flinders Street, Adelaide SA 5000, Australia BAE Systems Applied Intelligence Integrated BAE Systems (Dynamics) Limited BAE Systems Australia Logistics Pty Limited Computer Solutions (Kuwait) (S.P.C) Level 2, 80 Flinders Street, Adelaide SA5000, Australia Al Hamra Tower, Al-Shuhada Street, Kuwait City, Kuwait BAE Systems (Farnborough 3) Limited BAE Systems Australia Sea Sentinel Project Pty BAE Systems Applied Intelligence (Integration) BAE Systems (Finance) Limited Limited Limited Level 2, 80 Flinders Street, Adelaide SA5000, Australia | BAE Systems (Funding Four) Unlimited Company | Surrey Research Park, Guildford, Surrey GU2 7YP, | | | --- | --- | --- | | Riverside One, Sir John Rogerson’s Quay, Dublin D02 X576, | UnitedKingdom | BAE Systems Avionics Singapore Pte Limited | | Ireland | | One Marina Boulevard, #28-00, Singapore 018989, | BAE Systems Applied Intelligence (International) Singapore BAE Systems (Funding Three) Limited Limited Priestley Road, Surrey Research Park, Guildford, BAE Systems Bofors AB BAE Systems (Funding Two) Limited | | | Surrey GU2 7YP, United Kingdom | | SE-691 80 Karlskoga, Sweden | | --- | --- | --- | --- | --- | | BAE Systems (Gripen Overseas) Limited | | | 8 | | | | | BAE Systems Applied Intelligence (Ireland) Limited | | BAE Systems Bofors Holdings Sdn Bhd | | BAE Systems (Hawk Synthetic Training) Limited | | Level 5, Block 4, Dundrum Town Centre, Sandyford Road, | | Level 21, Suite 21.01, The Gardens South Tower, Mid Valley | | | 3 | Dundrum, Dublin 16, D16 A4W6, Ireland | | City, Lingkaran Syed Putra, 59200 Kuala Lumpur, Malaysia | BAE Systems (Holdings) Limited 2 BAE Systems Applied Intelligence (Japan) KK BAE Systems C-ITS AB BAE Systems (Insurance) Limited 12/F Ark Mori Building, 1-12-32 Akasaka, Minato-ku, Box 5676, SE-114 86 Stockholm, Sweden 10 Fleet Place, London EC4M 7QS, United Kingdom Tokyo,107-6024, Japan 2,3 BAE Systems Communications Limited BAE Systems (International) Limited BAE Systems Applied Intelligence (Spain) S.A. 10 Fleet Place, London EC4M 7QS, United Kingdom BAE Systems (Kazakhstan) Limited Paseo de la Castellana, 141, Cuzco IV, 28046 Madrid, Spain 1 BAE Systems Communications Solutions LLC BAE Systems (Kuwait) Limited BAE Systems Applied Intelligence (UK) Limited Knowledge Oasis, Building 4, Second Floor, 0402-Z427, Knowledge Oasis Muscat, PO Box 16, Postal Code 135, 4 BAE Systems Applied Intelligence A/S BAE Systems (Land and Sea Systems) Limited Muscat,Oman c/o Kromann Reumert, Sundkrogsgade 5, Copenhagen East, BAE Systems (Malaysia) Sdn Bhd 2100, Denmark 8 BAE Systems Controls Inc. Level 25 Menara Hong Leong, No. 6 Jalan Damanlela, 1209 Orange Street, Wilmington DE 19801, United States BukitDamansara, 50490 KualaLumpur, Malaysia BAE Systems Applied Intelligence Canada Inc. 600-1741 Water Street, Halifax NS B3J 0J2, Canada 11 BAE Systems Creole Inc. BAE Systems (MEH) Limited 1209 Orange Street, Wilmington DE 19801, United States BAE Systems Applied Intelligence France SAS | BAE Systems (Military Air) Overseas Limited | | 19 Boulevard Malesherbes, 75008, Paris, France | | BAE Systems Datagate Holdings Limited | | | --- | --- | --- | --- | --- | --- | | | 3 | | 9 | | | | BAE Systems (Nominees) Limited | | BAE Systems Applied Intelligence GCS Inc. | | BAE Systems Datagate Limited | | | | | CSC, 100 Shockoe Slip, 2nd Floor Richmond VA 23219, | | | 12 | | BAE Systems (Oman) Limited | | | | BAE Systems Deployed Systems Limited | | United States 5 2 BAE Systems (Operations) Limited 10 BAE Systems Display Technologies Limited BAE Systems Applied Intelligence Inc. CSC, 2711 Centerville Road, Suite 400, Wilmington 10 Fleet Place, London EC4M 7QS, United Kingdom BAE Systems (Operations) Singapore Pte Limited One Marina Boulevard #28-00, Singapore 018989, DE19808, United States BAE Systems do Brasil Ltda Singapore SCN Quadra 5 Bloco A, Ed. Brasilia Shopping, Torre Norte, BAE Systems Applied Intelligence Limited Surrey Research Park, Guildford, Surrey GU2 7YP, Sala426, Brasilia, DF CEP:70715-900, Brazil BAE Systems (Overseas Holdings) Limited UnitedKingdom 264 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 36. Information about related undertakings continued Subsidiaries – wholly-owned continued 1 BAE Systems Electronic Systems (Overseas) Limited BAE Systems Jacksonville Ship Repair LLC BAE Systems Saudi Arabia (Maintenance 8500 Hecksher Drive, Jacksonville FL 32226, United States andEquipment Services) Limited BAE Systems Electronics Limited 1 PO Box 1732, Riyadh 11441, Saudi Arabia BAE Systems Land & Armaments Holdings LLC BAE Systems Enterprises Limited 2941 Fairview Park Drive, Suite 100, Falls Church VA 22042, BAE Systems Saudi Arabia (Vehicles and BAE Systems Executive Pension Scheme Trustees United States 3 EquipmentHoldings) Limited 3 8 Limited BAE Systems Land & Armaments Inc. BAE Systems Saudi Arabia (Vehicles and | | 1209 Orange Street, Wilmington DE 19801, United States | | | 3 | | --- | --- | --- | --- | --- | | BAE Systems Finance B.V. | | | EquipmentNominees) Limited | | | c/o IQ-EQ, Hoogoorddreef 15, 1101 BA Amsterdam, | | 1 | | | BAE Systems Land & Armaments L.P. Netherlands BAE Systems Saudi Limited 2941 Fairview Park Drive, Suite 100, Falls Church VA 22042, PO Box 1732, Riyadh 11441, Saudi Arabia 8 UnitedStates BAE Systems Finance Inc. 1209 Orange Street, Wilmington DE 19801, United States BAE Systems Serviços de Aviônicos Ltda. BAE Systems Land Systems (Finance) Limited Rua Ambrósio Molina, No. 1090. Bloco F, Eugênio de Melo, 13 | BAE Systems Flight Training (Australia) Pty Limited | BAE Systems Land Systems (Investments South | São José dos Campos, São Paulo 12.247-000, Brazil | | | --- | --- | --- | --- | | Level 2, 80 Flinders Street, Adelaide SA 5000, Australia | | | 3 | | | Africa) Limited | BAE Systems Share Plans Trustee Limited | | 3,13 BAE Systems Funds Management | | BAE Systems Land Systems (Investments) Limited | | BAE Systems Shared Services (Overseas) Limited | | | | --- | --- | --- | --- | --- | --- | | BAE Systems GCS International Limited | | 2 | | | 8 | | | BAE Systems Land Systems (Logistics) Limited | | BAE Systems Shared Services Inc. | | | | BAE Systems Global Combat Systems Bridging | 10 Fleet Place, London EC4M 7QS, United Kingdom | | 1209 Orange Street, Wilmington DE 19801, United States | | | | Limited | BAE Systems Land Systems (Ranges) Limited | | | 8 | | BAE Systems Ship Repair Inc. BAE Systems Global Combat Systems Munitions BAE Systems Land Systems (Singapore Investments) 1209 Orange Street, Wilmington DE 19801, United States Limited Limited 8 BAE Systems Southeast Shipyards AMHC Inc. | | 1 | | 1200 South Pine Island Road, Plantation FL 33324, | | --- | --- | --- | --- | | BAE Systems Global LLC | | BAE Systems Land Systems ATF Limited | | | 2941 Fairview Park Drive, Suite 100, Falls Church VA 22042, | | | UnitedStates | 8 United States BAE Systems Land Systems FMTV International Inc. BAE Systems Surface Ships (Holdings) Limited 1209 Orange Street, Wilmington DE 19801, United States BAE Systems Hägglunds AB BAE Systems Surface Ships (Overseas) Limited SE-691 80, Karlskoga, Sweden BAE Systems Land Systems Pinzgauer (Holdings) 7 Limited BAE Systems Surface Ships (Projects) Limited BAE Systems Hawaii Shipyards Inc. The Corporation Company, Inc., 1136 Union Mall, Suite 301, BAE Systems Land Systems Pinzgauer Limited BAE Systems Surface Ships Integrated Honolulu HI 96813, United States SupportLimited BAE Systems MAI Turkey Hava Sistemleri A.S¸ | BAE Systems Holding GmbH | Üniversiteler Mahallesi, Beytepe Lodumlu Köy Yolu Cad. | BAE Systems Surface Ships Intermediate | | --- | --- | --- | | Hauptstrasse 48, 82433 Bad Kohlgrub, Germany | No:5/348 Çankaya, Ankara, Turkey | HoldingsLimited | | BAE Systems Holdings (South Africa) (Pty) Limited | BAE Systems Marine (Holdings) Limited | BAE Systems Surface Ships International Limited | Central Office Park No. 5, 257 Jean Avenue, Centurion, BAE Systems Marine (YSL) Limited BAE Systems Surface Ships Limited Gauteng, 0157, South Africa BAE Systems Marine Limited BAE Systems Surface Ships Maritime Limited BAE Systems Holdings B.V. c/o IQ-EQ, Hoogoorddreef 15, 1101 BA Amsterdam, BAE Systems Norfolk Ship Repair Inc. 7 BAE Systems Surface Ships Portsmouth Limited Netherlands 4701 Cox Road, Suite 285, Glen Allen VA 23060-6802, 8 United States BAE Systems Surface Ships Projects (Malaysia) Sdn Bhd BAE Systems Holdings Inc. 1 Level 29 Menara Binjai, No 2 Jalan Binjai, Off Jalan Ampang, 1209 Orange Street, Wilmington DE 19801, United States BAE Systems Oman LLC 50450 Kuala Lumpur, Malaysia 1 PO Box 74, Postal Code 111, Seeb, Oman BAE Systems Holdings International LLC | | | | | 8 | | BAE Systems Surface Ships Property Services Limited | | | | --- | --- | --- | --- | --- | --- | --- | --- | --- | | 1676 International Drive, 10th Floor, Suite 1000, | | BAE Systems Ordnance Systems Inc. | | | | | | | | McLeanVA22102, United States | | | | | | | | 5 | | | | 1209 Orange Street, Wilmington DE 19801, United States | | | | BAE Systems Surface Ships Support Limited | | | | | 8 | | 8 | | | | | | | BAE Systems Imaging Solutions Inc. | | BAE Systems Overseas Inc. | | | | BAE Systems SWS Defence AB | | | | 1209 Orange Street, Wilmington DE 19801, United States | | 1209 Orange Street, Wilmington DE 19801, United States | | | | SE-691 80 Karlskoga, Sweden | | | | BAE Systems India (Homeland Security) | | | | | 3 | | 1 | | | | | BAE Systems Pension Funds CIF Trustees Limited | | | | BAE Systems Tactical Vehicle Systems LP | | | 15 PrivateLimited 2941 Fairview Park Drive, Suite 100, Falls Church VA 22042, #201, 2nd Floor, World Mark 2, Asset No. 8, Aerocity, NH-8, BAE Systems Pension Funds Investment United States 3,16 New Delhi – 110037, India ManagementLimited 8 BAE Systems Technology Solutions & Services Inc. 15 3 BAE Systems India (Services) Private Limited BAE Systems Pension Funds Trustees Limited 1209 Orange Street, Wilmington DE 19801, United States #201, 2nd Floor, World Mark 2, Asset No. 8, Aerocity, NH-8, BAE Systems Project Services Limited BAE Systems Training Services Limited New Delhi – 110037, India BAE Systems Projects (Canada) Limited 1 15 BAE Systems TVS Holdings LLC BAE Systems India (Technology) Private Limited 2941 Fairview Park Drive, Suite 100, Falls Church VA 22042, #201, 2nd Floor, World Mark 2, Asset No. 8, Aerocity, NH-8, BAE Systems Properties Limited United States | New Delhi – 110037, India | | | 3 | | | | | --- | --- | --- | --- | --- | --- | --- | | | | BAE Systems Quest Limited | | | | 8 | | | 15 | | | | BAE Systems Zephyr Corporation | | | BAE Systems India (Ventures) Private Limited | | | | 9 | | | | | | BAE Systems Regional Aircraft (Japan) KK | | | c/o The Corporation Trust Company, Corporation Trust Center, | | #201, 2nd Floor, World Mark 2, Asset No. 8, Aerocity, NH-8, Minami Azabu T&F Building 8th Floor, 1209 Orange Street, Wilmington DE 19801, United States New Delhi – 110037, India 4-11-22 Minami Azabu, Minato-ku, Tokyo, Japan 8 BAE Systems Zephyr Fifth Corporation BAE Systems Information and Electronic Systems 17 8 BAE Systems Regional Aircraft Colombia SAS c/o The Corporation Trust Company, Corporation Trust Center, Integration Inc. c/o Brigard & Urrutia, Calle 70 A No. 4-41, Bogotá, Colombia 1209 Orange Street, Wilmington DE 19801, United States 1209 Orange Street, Wilmington DE 19801, United States 8 8 BAE Systems Resolution Inc. BAE Systems Zephyr Fourth Corporation BAE Systems Insurance (Isle of Man) Limited 1999 Bryan Street, Suite 900, Dallas TX 75201, United States c/o The Corporation Trust Company, Corporation Trust Center, Tower House, Loch Promenade, Douglas, IM1 2LZ, 8 1209 Orange Street, Wilmington DE 19801, United States IsleofMan BAE Systems S&S Operations Inc. 8 1209 Orange Street, Wilmington DE 19801, United States BAE Systems Zephyr Second Corporation BAE Systems Integrated System Technologies 7 c/o The Corporation Trust Company, Corporation Trust Center, (KSA)Limited BAE Systems San Diego Ship Repair Inc. 1209 Orange Street, Wilmington DE 19801, United States 330 N. Brand Boulevard, Glendale CA 91203-2336, | BAE Systems Integrated System Technologies | | | 8 | | --- | --- | --- | --- | | | UnitedStates | BAE Systems Zephyr Third Corporation | | | (Overseas) Limited | | c/o The Corporation Trust Company, Corporation Trust Center, | | | | BAE Systems Saudi America Limited | 1209 Orange Street, Wilmington DE 19801, United States | | | BAE Systems Integrated System Technologies Limited | Riyadh Kingdom Centre 28th Floor (REGUS), PO Box 23088, | | | 8 8 Riyadh 11321, Central Province, Riyadh, Saudi Arabia BAE Systems, Inc. BAE Systems International Inc. 1209 Orange Street, Wilmington DE 19801, United States 1209 Orange Street, Wilmington DE 19801, United States BAE Systems plc Annual Report 2021 265 Financial statements ## Notes to the Group accounts conti nued ### 36. Information about related undertakings continued Subsidiaries – wholly-owned continued | | | | 14 | | | 3 | | --- | --- | --- | --- | --- | --- | --- | | Brabazon Limited | | MES Interco | | The Blackburn Aeroplane & Motor Co Limited | | | | | 18 | | | | 3 | | | British Aerospace (Far East) Limited | | Meslink Limited | | The Bristol Aviation Company Limited | | | | Level 54, Hopewell Centre, 183 Queen’s Road East, | | | | | | 3 | | | | Newcombe Properties Limited | | The British & Colonial Aeroplane Co. Limited | | | HongKong 2 3,4 18 Piper Group plc The Supermarine Aviation Works Limited British Aerospace (Malaysia) Sdn Bhd | | 10 Fleet Place, London EC4M 7QS, United Kingdom | | 3 | | --- | --- | --- | --- | | Unit 30-01, Level 30, Tower A, Vertical Business Suite, | | Thomas Sopwith Aviation Company Limited | | | Avenue3, Bangsar South, No.8, Jalan Kerinchi, | Pitch Technologies AB | | | | 59200KualaLumpur, Malaysia | | VSEL Birkenhead Limited | | Repslagaregatan 25, SE-582 22 Linköping, Sweden British Aircraft Corporation (Pension Fund Trustees) Warship Design Services Limited Pitch Technologies Limited | | 3 | | | | 9 | | --- | --- | --- | --- | --- | --- | | Limited | | | Sweden House, 5 Upper Montagu Street, London W1H 2AG, | Westover Controls Incorporated | | | | | 3 | United Kingdom | 1098 Clark Street, Endicott NY 13760, United States | | British Aircraft Corporation Limited 5 2,3,5 Prismatic Limited Cashhold Limited 2 Omega Park, Alton GU34 2QE, United Kingdom 10 Fleet Place, London EC4M 7QS, United Kingdom 7 11 PT. BAE Systems Services CPS International, Inc. Wisma 46, Kota BNI, 34th Floor, Suite 34.01.A, c/o Benedetti & Benedetti, Comosa Building, 21stFloor, Jl.JenderalSudirman Kavling 71, Jakarta 10220, Indonesia Ave.Samuel Lewis, PO Box 850120, Panama 5, Panama 5 Pulse Power and Measurement Inc. Creole (Nigeria) Limited 1717 Pennsylvania Avenue, NW Suite, 1025 Washington DC Tapa House (2ndFloor), 45, Imman Dauda St (Abosede 20006, United States Kuboye Crescent Entrance) Surulere, Lagos, Nigeria 22 Pulse Power and Measurement Limited Detica B.V. 65 Shrivenham Hundred Business Park, Watchfield, Swindon, Luna ArenA, Herikerbergweg 238, 1101 CM Amsterdam, Wiltshire SN6 8TY, United Kingdom Netherlands 11 Representaciones SSTS, CA Detica Group Holdings (Ireland) Limited Ave Francisco de Miranda, Centro Lido El Rosal Oficina 71B, Level 5, Block 4, Dundrum Town Centre, Sandyford Road, Caracas, Venezuela Dundrum, Dublin 16, D16 A4W6, Ireland Riptide Autonomous Solutions Canada Company Detica Group Limited 1300-1969 Upper Water Street, Purdy’sWharf Tower II, 7 Halifax,NS, BJ3 3R7, Canada Detica Ireland Limited Level 5, Block 4, Dundrum Town Centre, Sandyford Road, Royal Ordnance (Crown Service) Pension Scheme Dundrum, Dublin 16, D16 A4W6, Ireland Trustees Limited Detica Mexico S. de R.L. de C.V. 2 Royal Ordnance B.V. Torre Esmeralda II, Blvd Manuel Avila Camacho No. 36 c/o IQ-EQ, Hoogoorddreef 15, 1101 BA Amsterdam, Piso18, Lomas de Chapultepec, 11000 D.F., Mexico Netherlands Detica Patent Limited Royal Ordnance Senior Staff Pension Scheme Level 5, Block 4, Dundrum Town Centre, Sandyford Road, | Dundrum, Dublin 16, D16 A4W6, Ireland | | TrusteesLimited | | | | --- | --- | --- | --- | --- | | | 9 | | | 3 | | Detica Services, Inc. | | Royal Ordnance Speciality Metals Limited | | | | c/o Corporation Trust Company, 1209 Orange Street, | | | 3 | | RWT Limited Wilmington DE 19801, United States Salford Electrical Instruments Limited Dividend Training Limited 9 Scentcivil Limited ETI Engineering, Inc. 3 | 1676 International Drive, 10th Floor, Suite 1000, | | Scottish Aviation Limited | | --- | --- | --- | | McLeanVA22102, United States | | Prestwick International Airport, Prestwick, Ayrshire | | | 3 | KA92RW, United Kingdom | Gloster Aircraft Limited 1 Sepia, LLC H-B Utveckling, H-B Development AB 4219 Lafayette Center Drive, Chantilly VA 20151, Nybrogatan 7, SE-114 34 Stockholm, Sweden UnitedStates 15 Hadrian Holdings, Inc. Shipbuilding (MSF) Pty Limited 521 Fifth Avenue, New York NY 101075, United States Level 2, 80 Flinders Street, Adelaide SA 5000, Australia 3,19 Hadrian Trustees Limited Shipbuilding (VIC) Pty Limited Hägglunds Vehicle GmbH Level 2, 80 Flinders Street, Adelaide SA 5000, Australia Ernst-Grote Strasse 13, 30916 Isernhagen, Germany 11 Stewart & Stevenson Operations (Nigeria) Limited 3 Tapa House (2nd Floor), 45, Imman Dauda St (Abosede Hawker Siddeley Aviation Limited Kuboye Crescent Entrance), Surulere, Lagos, Nigeria 3 Hawker Siddeley Dynamics Limited Stewart & Stevenson TVS UK Limited 3 HSA/HSD Pension Fund Trustees Limited Stratsec.net Sdn Bhd Hunter Aerospace Corporation Pty Limited Unit F-3-1, Blok F, Third Floor, CBD Perdana 3, Jalan Perdana, Level 2, 80 Flinders Street, Adelaide SA 5000, Australia Cyber 12, 63000 Cyberjaya, Selangor Darul Ehsan, Malaysia 20,21 In-Space Missions Limited Support Solutions General Services and Contracting 8 Oriel Court, Omega Park, Alton GU34 2YT, 1,17 Company/Limited Liability company | UnitedKingdom | | | House No. 145, Street No. 1, Qtr. 611, Al Andulous Area, | | | --- | --- | --- | --- | --- | | International Military Sales Limited | | | AlMansour, Baghdad, Iraq | | | | | 3 | | 23 | | Jetstream Aircraft Limited | | | TDS International Holdings Pty Limited | | | Prestwick International Airport, Prestwick, Ayrshire | | | Level 2, 80 Flinders Street, Adelaide SA 5000, Australia | | | KA92RW, United Kingdom | | | TDS International Pty Limited | | | | 20 | | Level 2, 80 Flinders Street, Adelaide SA 5000, Australia | | Lemacrown Limited MES Holdco Limited Techmodal Limited Charter Place, 23/27 Seaton Place, St. Helier, Jersey JE1 1JY Techmodal Ventures Limited 266 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 36. Information about related undertakings continued | Subsidiaries – not wholly-owned | Equity accounted investments | | Notes | | | --- | --- | --- | --- | --- | | Advanced National Company for Aircraft | Abercromby Property International (20.42%) | | 1. Unincorporated entity for which the address | | | Maintenance Limited (51%) | 521 Fifth Avenue, New York NY 101075, United States | | | givenisthe principal place of business. | | PO Box 1732, Riyadh 11441, Saudi Arabia | | 10 | 2. In members’ voluntary liquidation. | | Air Astana (49%) | | 3,19 | 121 Kabanbay Batyr Avenue, Yessil District, Astana 010000, | | | --- | --- | --- | --- | | Aircraft Research Association Limited (92.8%) | | | 3. Directly owned by BAE Systems plc. | | Manton Lane, Bedford MK41 7PF, United Kingdom | | Kazakhstan | | 4. Ownership held in class of A shares, B shares 26 BAE Systems Saudi Development and Training AMSH B.V. (50%) andpreference shares. 24 Coolsingel 61, 7th Floor – right, 3012 AB Rotterdam, Company Limited (50.98%) Netherlands 5. Ownership held in class of A shares and B shares. PO Box 67775, Riyadh 11517, Saudi Arabia 6. Ownership held in ordinary shares and BAE Systems SDT (UK) Limited (51%) BAE Systems Strategic Aerospace Services WLL (49%) Building 58, Street 850, Area 23, Qatari Bin Al Fajaa, preferenceshares. 25 Flight Control System Management GmbH (66.6%) Doha,Qatar 7. Ownership held in common shares. | PO Box 801109, 81663 Munich, Germany | | 3,15 | | | --- | --- | --- | --- | | | BAeHAL Software Limited (40%) | | 8. Ownership held in common stock. | | Granada Enterprises Limited (51%) | Airport Lane, HAL Estate, Bangalore 560010, India | | | 9. Year end 30 June. PO Box 1732, Riyadh 11441, Saudi Arabia BHIC Bofors Defense Asia Sdn Bhd (49%) 10. Ownership held in ordinary shares and 14 Hadrian Properties, Inc. (95%) Level 21, Suite 21.01, The Gardens South Tower, Mid Valley 521 Fifth Avenue, New York NY 101075, United States redeemablepreference shares. City, Lingkaran Syed Putra, 59200 KualaLumpur, Malaysia | | | 27 | 11. Ownership held in authorized shares. | | --- | --- | --- | --- | | International Systems Engineering Company Limited | Canadian Naval Support Limited (50%) | | | | (46.2%) | 3099 Barrington Street, Halifax NS B3K 5M7, Canada | | 12. 40% owned by BAE Systems plc. | | PO Box 54002, Riyadh 11514, Saudi Arabia | | | 13. Ownership held in ordinary shares, ordinary A | CTA International SAS (50%) Overhaul and Maintenance Company Holding (51%) 13 Route De La Miniere, 78034 Versailles Cedex, France and ordinary B shares. PO Box 1732, Riyadh 11441, Saudi Arabia 1,18 14. Unlimited company. Data Link Solutions L.L.C. (50%) Saudi Maintenance & Supply Chain Management 350 Collins Road, Northeast Cedar Rapids IA 52498, 15. Year end 31 March. Company Limited (51%) UnitedStates 16. Year end 5 April. | PO Box 1732, Riyadh 11441, Saudi Arabia | | | 3 | | | --- | --- | --- | --- | --- | | | | Eurofighter Jagdflugzeug GmbH (33%) | | 17. In liquidation. | | | 3 | Am Soldnermoos 17, 85399 Hallbergmoos, Germany | | | Saudi Technology & Logistics Services Limited (65%) 18. Year end 30 September. PO Box 1732, Riyadh 11441, Saudi Arabia 3,23 European Aerosystems Limited (50%) 19. Limited by Guarantee. SMSCMC (UK) Limited (51%) 1 FADEC International LLC (50%) 20. Ownership held in ordinary shares and class 1098 Clark Street, Endicott NY 13760, United States ofAshares. 14,23 FAST Holdings Limited (50%) 21. Year end 31 August. 15 FAST Training Services Limited (50%) 22. Ownership held in class of A, B, C, D, E, F 23 andGordinary shares. FNSS Savunma Sistemleri A.S (49%) Og˘ ulbey Mahallesi, Og˘ ulbey Kumeevleri, No. 441/A, 441/B, 23. Ownership held in class of A shares. Gölbas¸ ı, Ankara, Turkey 24. 1% owned by BAE Systems plc. 7 KBS Maritime Limited (50%) 25. 33.3% owned by BAE Systems plc. MBDA B.V. (37.5%) 26. Ownership held in class of B shares. Coolsingel 61, 7th Floor – right, 3012 AB Rotterdam, 27. Ownership held in common shares and Netherlands BPreferredshares. MBDA Holdings S.A.S. (25%) 1 Avenue Réaumur, 92350 Le Plessis-Robinson, France MBDA S.A.S. (37.5%) 1 Avenue Réaumur, 92350 Le Plessis-Robinson, France Nobeli Business Support AB (34%) SE-691 80 Karlskoga, Sweden Nurol BAE Systems Hava Sistemleri Anonim S¸ irketi 26 (49%) Üniversiteler Mah, 1605.Cad, No:3/1-3, 06800, Ankara, Turkey 3 Panavia Aircraft GmbH (42.5%) Am Soldnermoos 17, 85399 Hallbergmoos, Germany Rheinmetall BAE Systems Land Limited (45%) Hadley Castle Works, PO Box 106, Telford TF1 6QW, UnitedKingdom Saab Bofors Test Center AB (30%) Box 418, SE-691 27 Karlskoga, Sweden 8 Sealand Support Services Limited (33.3%) MoD Sealand, Welsh Road, Sealand, Deeside, Flintshire CH52LS, United Kingdom 3,15 Spectrum Technologies Limited (20%) Western Avenue, Bridgend Industrial Estate, Bridgend, MidGlamorgan CF31 3RT, United Kingdom Winner Developments Limited (33.3%) BAE Systems plc Annual Report 2021 267 Financial statements ## Company statement of comprehensive income for the year ended 31 December | | 2021 £m | 2020 £m | | --- | --- | --- | | **Profit for the year** | **902** | **600** | | **Other comprehensive income** | | | | **Items that will not be reclassified to the income statement:** | | | | Remeasurements on post-employment benefit schemes | **205** | **(137)** | | **Items that may be reclassified to the income statement:** | | | | Amounts debited to hedging reserve | – | (2) | | **Total other comprehensive income for the year (net of tax)** | **205** | **(139)** | | **Total comprehensive income for the year** | **1,107** | **461** | ## Company statement of changes in equity for the year ended 31 December | | Notes | Issued share capital £m | Share premium £m | Other reserves £m | Retained earnings^{1} £m | Total equity £m | | --- | --- | --- | --- | --- | --- | --- | | At 1 January 2020 | | 87 | 1,249 | 206 | 2,956 | 4,498 | | *Profit for the year* | | – | – | – | 600 | 600 | | *Total other comprehensive income for the year* | | – | – | (2) | (137) | (139) | | Total comprehensive income for the year | | – | – | (2) | 463 | 461 | | Share-based payments | 10 | – | – | – | 74 | 74 | | Ordinary share dividends^{2} | | – | – | – | (746) | (746) | | At 31 December 2020 | | 87 | 1,249 | 204 | 2,747 | 4,287 | | *Profit for the year* | | – | – | – | 902 | 902 | | *Total other comprehensive income for the year* | | – | – | – | 205 | 205 | | Total comprehensive income for the year | | – | – | – | 1,107 | 1,107 | | Share-based payments | 10 | – | – | – | 92 | 92 | | Purchase of own shares | 9 | (2) | – | 2 | (371) | (371) | | Unclaimed assets programme proceeds | | – | 3 | – | – | 3 | | Ordinary share dividends^{2} | | – | – | – | (777) | (777) | | **At 31 December 2021** | | **85** | **1,252** | **206** | **2,798** | **4,341** | 1. The non-distributable portion of retained earnings is £875m (2020 £827m). 2. Details of ordinary share dividends are provided in note 26 to the Group accounts. 268 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## Company balance sheet as at 31 December | | Notes | 2021 £m | 2020 £m | | --- | --- | --- | --- | | **Non-current assets** | | | | | Intangible assets | | 52 | 53 | | Property, plant and equipment | | 5 | 7 | | Right-of-use assets | | 21 | 25 | | Investments in subsidiary undertakings and participating interests | 2 | 9,117 | 9,047 | | Amounts owed by subsidiary undertakings | 3 | 4,500 | 4,173 | | Other receivables | | 7 | 10 | | Post-employment benefit surpluses | 8 | 151 | 121 | | Other financial assets | 4 | 401 | 301 | | | | **14,254** | **13,737** | | **Current assets** | | | | | Trade and other receivables | 3 | 63 | 69 | | Current tax | | 13 | 14 | | Other financial assets | 4 | 307 | 274 | | Cash and cash equivalents | | 2,131 | 2,149 | | | | **2,514** | **2,506** | | **Total assets** | | **16,768** | **16,243** | | **Non-current liabilities** | | | | | Loans | 5 | (2,701) | (3,071) | | Lease liabilities | | (27) | (30) | | Other payables | 6 | – | (21) | | Post-employment benefit obligations | 8 | (288) | (469) | | Other financial liabilities | 4 | (409) | (350) | | Provisions | 7 | (126) | (120) | | | | **(3,551)** | **(4,061)** | | **Current liabilities** | | | | | Loans | 5 | (432) | (467) | | Lease liabilities | | (3) | (4) | | Trade and other payables | 6 | (8,087) | (7,086) | | Other financial liabilities | 4 | (340) | (312) | | Provisions | 7 | (14) | (26) | | | | **(8,876)** | **(7,895)** | | **Total liabilities** | | **(12,427)** | **(11,956)** | | **Net assets** | | **4,341** | **4,287** | | **Capital and reserves** | | | | | Issued share capital | | 85 | 87 | | Share premium | | 1,252 | 1,249 | | Other reserves | 9 | 206 | 204 | | Retained earnings^{1} | | 2,798 | 2,747 | | **Total equity** | | **4,341** | **4,287** | 1. The Company's profit for the year is £902m (2020 £600m). Approved by the Board of BAE Systems plc on 23 February 2022 and signed on its behalf by: **C N Woodburn** **B M Greve** Chief Executive Group Finance Director Registered number: 1470151 BAE Systems plc Annual Report 2021 269 Financial statements # Notes to the Company accounts ## 1. Preparation ### Basis of preparation The financial statements of BAE Systems plc have been prepared on a going concern basis, as discussed in the Directors' report on page 123, and in accordance with Financial Reporting Standard (FRS) 101, Reduced Disclosure Framework. In preparing these financial statements, the Company applies the recognition, measurement and disclosure requirements of International Financial Reporting Standards (IFRS) as adopted by the EU (EU-adopted IFRS), but makes amendments where necessary in order to comply with the Companies Act 2006 and has set out below where advantage of the FRS 101 disclosure exemptions has been taken: - – the requirements of paragraphs 45(b) and 46 to 52 of IFRS 2 Share-based Payment; - – the requirements of paragraphs 62, B64(d), B64(e), B64(g), B64(h), B64(j) to B64(m), B64(n)(ii), B64(o)(ii), B64(p), B64(q)(ii), B66 and B67 of IFRS 3 Business Combinations; - – the requirements of paragraph 33(c) of IFRS 5 Non-current Assets Held for Sale and Discontinued Operations; - – the requirements of IFRS 7 Financial Instruments: Disclosures; - – the requirements of paragraphs 91 to 99 of IFRS 13 Fair Value Measurement; - – the requirements of the second sentence of paragraph 110 and paragraphs 113(a), 114, 115, 118, 119(a) to (c), 120 to 127 and 129 of IFRS 15 Revenue from Contracts with Customers; - – the requirement in paragraph 38 of IAS 1 Presentation of Financial Statements, to present comparative information in respect of: paragraph 79(a)(iv) of IAS 1; paragraph 73(e) of IAS 16 Property, Plant and Equipment; paragraph 118(e) of IAS 38 Intangible Assets; and paragraphs 76 and 79(d) of IAS 40 Investment Property; - – the requirements of paragraphs 10(d), 10(f), 16, 38A, 38B, 38C, 38D, 40A, 40B, 40C, 40D, 111 and 134 to 136 of IAS 1 Presentation of Financial Statements; - – the requirements of IAS 7 Statement of Cash Flows; - – the requirements of paragraphs 30 and 31 of IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors; - – the requirements of paragraphs 17 and 18A of IAS 24 Related Party Disclosures; - – the requirements in IAS 24 Related Party Disclosures, to disclose related party transactions entered into between two or more members of a group, provided that any subsidiary which is a party to the transaction is wholly owned by such a member; and - – the requirements of paragraphs 130(f)(ii), 130(f)(iii), 134(d) to 134(f) and 135(c) to 135(e) of IAS 36 Impairment of Assets. The Company intends to continue to prepare its financial statements in accordance with FRS 101. In accordance with Section 408(3) of the Companies Act 2006, the Company is exempt from the requirement to present its own income statement. The amount of profit for the year of the Company is disclosed in the Company statement of comprehensive income and Company balance sheet. The financial statements have been prepared under the historical cost convention, as modified by the revaluation of relevant financial assets and financial liabilities (including derivative instruments). ### Significant accounting policies The significant accounting policies applied in the preparation of these individual financial statements are set out below. These policies have been applied consistently to all the years presented, unless otherwise stated. ### Investments in subsidiary undertakings and participating interests Fixed asset investments in shares in subsidiary undertakings and participating interests are stated at cost less provision for impairment. The Company recognises an increase in its investments in subsidiary undertakings in respect of the cost of share-based payment awards issued by the Company to employees of the Company's operating subsidiaries, with a corresponding entry to equity. ### Amounts owed by subsidiary undertakings Amounts owed by subsidiary undertakings are stated at amortised cost including a provision for expected credit losses. The Company measures the provision at an amount equal to 12-month expected credit losses. The amount is not material to the financial statements as the probability of default is insignificant. ### Other significant accounting policies Other significant accounting policies are consistent with the Group accounts. ### Judgements and sources of estimation uncertainty In the course of preparing the financial statements, no judgements have been made in the process of applying the Company's accounting policies, other than those involving estimates, that have had a significant effect on the amounts recognised in the financial statements. There are no major sources of estimation uncertainty that have a significant risk of resulting in a material adjustment to the carrying amounts of assets and liabilities within the next financial year. ### Changes in accounting policies Several standards, interpretations and amendments to existing standards became effective on 1 January 2021, as detailed on page 199 of the Group accounts, none of which had a material impact on the Company. 270 BAE Systems plc Annual Report 2021 Governance Financial statementsStrategic report ### 2. Investments in subsidiary undertakings and participating interests £m Cost At 1 January 2021 9,066 Additions 73 Disposal (16) At 31 December 2021 9,123 Impairment provisions At 1 January 2021 19 Disposal (13) At 31 December 2021 6 Net carrying value At 31 December 2021 9,117 At 31 December 2020 9,047 ### 3. Trade and other receivables 2021 2020 £m £m Non-current 1 Amounts owed by subsidiary undertakings 4,500 4,173 Current Amounts owed by equity accounted investments 3 6 Prepayments 19 14 Accrued income 26 23 Other receivables 15 26 63 69 1. Amounts owed by subsidiary undertakings are repayable on demand. Whilst the majority of these receivables are interest free, certain balances bear interest priced onanarm’s-length basis. ### 4. Other financial assets and liabilities 2021 2020 Assets Liabilities Assets Liabilities £m £m £m £m Non-current Other foreign exchange/interest rate contracts 287 (279) 164 (168) Debt-related derivative financial instruments 114 (130) 137 (182) 401 (409) 301 (350) Current Cash flow hedges – foreign exchange contracts 1 – – (1) Other foreign exchange/interest rate contracts 306 (340) 274 (294) Debt-related derivative financial instruments – – – (17) 307 (340) 274 (312) Disclosures in respect of the fair value of other financial assets and liabilities are provided in note 30 to the Group accounts. BAE Systems plc Annual Report 2021 271 Financial statements ## Notes to the Company accounts continued ### 5. Loans and overdrafts 2021 2020 £m £m Loans and overdrafts US$500m 4.75% bond, repayable 2021 – 366 £400m 4.125% bond, repayable 2022 409 399 US$1,300m 3.4% bond, repayable 2030 959 942 US$1,000m 1.90% bond, repayable 2031 738 724 US$400m 5.8% bond, repayable 2041 297 290 US$1,000m 3.0% bond, repayable 2050 730 716 Overdrafts – 101 3,133 3,538 Maturity analysis Non-current 2,701 3,071 Current 432 467 3,133 3,538 ### 6. Trade and other payables 2021 2020 £m £m Non-current Other payables – 21 Current 1 Amounts owed to subsidiary undertakings 6,947 5,869 Amounts owed to equity accounted investments 907 967 Accruals 128 105 Deferred income 40 49 Other payables 65 96 8,087 7,086 1. Amounts owed to subsidiary undertakings are repayable on demand. Whilst the majority of these payables are interest free, certain balances bear interest priced onanarm’s-length basis. ### 7. Provisions Contractual and other £m Non-current 120 Current 26 At 1 January 2021 146 Created 2 Utilised (8) At 31 December 2021 140 Represented by: Non-current 126 Current 14 140 The Company holds provisions for contractual costs that it expects to incur over an extended period. These costs are based on past experience ofsimilar items and represent management’s best estimate of the likely outcome, but the timing and amount of the outflows could differ significantly from management’s estimates. The Company expects these provisions to be utilised over a period of approximately 25 years. 272 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 8. Post-employment benefits The Company participates in all of the Group's UK pension schemes. Regular contributions to the schemes are made in line with the schedule of contributions and a share of deficit funding is allocated to participating employers. The deficit allocation methodology is based on the relative payroll contributions of active members. Full disclosures relating to these schemes are given in note 24 to the Group accounts. ### Amounts recognised on the balance sheet The table below shows the Company's share of the Group's UK pension schemes after allocation to other participating employers. | | 2021 £m | 2020 £m | | --- | --- | --- | | Present value of unfunded obligations | (108) | (87) | | Present value of funded obligations | (2,699) | (2,837) | | Fair value of scheme assets | 2,670 | 2,576 | | **Company's share of net IAS 19 deficit** | **(137)** | **(348)** | | Represented by: | | | | Post-employment benefit surpluses | 151 | 121 | | Post-employment benefit obligations | (288) | (469) | | | **(137)** | **(348)** | ## 9. Share capital and other reserves ### Share capital Disclosures in respect of the Company's share capital are provided in note 26 to the Group accounts. ### Other reserves | | Statutory reserve £m | Capital redemption reserve £m | Hedging reserve £m | Total £m | | --- | --- | --- | --- | --- | | At 1 January 2020 | 202 | 3 | 1 | 206 | | Amounts debited to hedging reserve | – | – | (2) | (2) | | At 31 December 2020 | 202 | 3 | (1) | 204 | | Purchase of own shares | – | 2 | – | 2 | | **At 31 December 2021** | **202** | **5** | **(1)** | **206** | ### Statutory reserve Under Section 4 of the British Aerospace Act 1980, this reserve may only be applied in paying up unissued shares of the Company to be allotted to members of the Company as fully paid bonus shares. ### Capital redemption reserve The capital redemption reserve represents the cumulative nominal value of the Company's ordinary shares repurchased and subsequently cancelled. ### Hedging reserve The hedging reserve comprises the effective portion of the cumulative net change in the fair value of cash flow hedging instruments related to hedged transactions that have not yet occurred. ### Purchase of own shares On 29 July 2021 the Company announced the details of a share buyback programme to repurchase up to £500m of its own shares over the following 12 months. As part of the buyback programme, it was agreed that should a better alternative use for the Company's cash reserves be identified, the share buyback programme would be ceased, and the money instead used for the alternative purpose. Therefore, when the Company issued a mandate to the brokers to purchase shares on their behalf, the mandates were structured such that they could be revoked at any point. As such, no financial liability has been recognised for shares not yet purchased under the programme. During 2021, 63,272,873 shares have been repurchased for a total price, including transaction costs, of £371m. These shares have been subsequently cancelled, with the nominal value of shares cancelled deducted from share capital against the capital redemption reserve. The share buyback programme was completed on 2 February 2022. In total 87,525,938 shares were repurchased under the scheme for a total price, including transaction costs, of £503m. BAE Systems plc Annual Report 2021 273 Financial statements ## Notes to the Company accounts continued ### 10. Share-based payments Options over shares of the Company have been granted to employees of the Company under various plans. Details of the terms and conditions of each share-based payment plan are given in the Annual remuneration report on pages 145 to 167. | | 2021 | | 2020 | | | --- | --- | --- | --- | --- | | | Range of exercise price of outstanding options £ | Weighted average remaining contracted life Years | Range of exercise price of outstanding options £ | Weighted average remaining contracted life Years | | Executive Share Option Plan (ExSOP) | 3.01 – 6.49 | 7 | 3.01 – 6.49 | 7 | | Performance Share Plan (PSP) | – | 5 | – | 5 | | Restricted Share Plan (RSP) | – | 6 | – | 6 | The average share price in the year was £5.33 (2020 £5.24). ### 11. Employees The total number of employees of the Company at 31 December 2021 was 1,786 (2020 1,743). All of the Company’s employees work within the Group’s HQ segment. Total staff costs, excluding charges for share-based payments, were as follows: | | 2021 £m | 2020 £m | | --- | --- | --- | | Wages and salaries | 126 | 109 | | Social security costs | 15 | 12 | | Pension costs – defined contribution plans | 2 | 4 | | Pension costs – defined benefit plans | 28 | 27 | | | 171 | 152 | 274 BAE Systems plc Annual Report 2021 Strategic report Governance Financial statements ## 12. Other information ### Company audit fee Fees payable to the Company's auditor for the audit of the Company's annual accounts totalled £2,349,000 (2020 £2,555,000). Fees payable to Deloitte LLP and its associates for non-audit services to the Company are not required to be disclosed because the Group accounts disclose such fees on a consolidated basis (see note 2 to the Group accounts). ### Related party transactions Disclosures in respect of related party transactions are provided in note 32 to the Group accounts. The Company also has amounts receivable from Aircraft Research Association Limited of £2m (2020 £nil) which is a partially-owned subsidiary. ### Directors' emoluments Under Schedule 5 of the Large and Medium-Sized Companies and Groups (Accounts and Reports) Regulations 2008 (Schedule 5), total directors' emoluments, excluding Company pension contributions, were £9,370,074 (2020 £6,267,009); these amounts are calculated on a different basis to emoluments in the Annual remuneration report which are calculated under Schedule 8 of the Large and Medium-Sized Companies and Groups (Accounts and Reports) Regulations 2008 (Schedule 8). These emoluments were paid for their services on behalf of the BAE Systems Group. No emoluments related specifically to their work for the Company. Under Schedule 5, the aggregate gains made by the directors from the exercise of share options in 2021 as at the date of exercise was £257,493 (2020 £1,010,527) and the net aggregate value of assets received by directors in 2021 from Long-Term Incentive Plans as calculated at the date of vesting was £1,467,959 (2020 £1,753,203); these amounts are calculated on a different basis from the valuation of share plan benefits under Schedule 8 in the Annual remuneration report. Retirement benefits are accruing to one director in respect of defined benefit schemes and to three directors in respect of defined contribution schemes. ### Company guaranteed borrowings Borrowings by subsidiary undertakings totalling £1,928m (2020 £1,886m), which are included in the Group's borrowings, have been guaranteed by the Company, with the guarantees measured initially at their fair values, and subsequently measured at the higher of the expected credit loss determined under IFRS 9 Financial Instruments and the amount initially recognised less cumulative amortisation. ### Information about related undertakings In accordance with Section 409 of the Companies Act 2006, a full list of the Company's subsidiaries and significant holdings is included in note 36 to the Group accounts. BAE Systems plc Annual Report 2021 275 Financial statements ## Shareholder information | Registered office | American Depositary Receipts | | --- | --- | | 6 Carlton Gardens | BAE Systems plc American Depositary Receipts (ADRs) are traded | | London | onthe Over The Counter market (OTC) under the symbol BAESY. | | SW1Y 5AD | OneADR represents four BAE Systems plc ordinary shares. | | United Kingdom | JP Morgan Chase Bank N.A. is the depositary. If you should have | | Telephone: +44 (0)1252 373232 | anyqueries please contact: | | Company website: baesystems.com | JP Morgan Chase Bank N.A. | | Registered in England and Wales, No. 1470151 | PO Box 64504 | St Paul Registrars MN 55164-0504, USA Equiniti Limited (0140) Email: jpmorgan.adr@eq-us.com Aspect House Telephone (toll free from within US and Canada): +1 800 990 1135 Spencer Road Telephone from outside US and Canada: +1 651 453 2128 Lancing West Sussex ShareGift BN99 6DA ShareGift, the share donation charity (registered charity number United Kingdom 1052686), accepts donations of small parcels of shares which may If you have any queries regarding your shareholding or need to notify beuneconomic to sell. Details of the scheme are available from any changes to your personal details, please contact Equiniti. ShareGift at sharegift.org, by telephone on 020 7930 3737 orbyemail: help@sharegift.org Equiniti’s website (help.shareview.co.uk) includes a comprehensive set of answers to many frequently asked questions relating to managing Share price information a shareholding. If you cannot find the answer to your question, there The middle market price of the Company’s ordinary shares on isan online email form, which will help to ensure your question is 31December 2021 was 549.8p and the range during the year directed to the most appropriate team for a response. Alternatively, was462p to599p. youcan call the BAE Systems Helpline on 0371 384 2044 or, from For more information outside the UK, +44 121 415 7058. Lines are open from 8.30am to5.30pm Monday to Friday, excluding UK bank holidays. Visit the Shareholder information section of our website: investors.baesystems.com In addition, the following services are offered to shareholders: – Shareview – online access to your shareholding, including Financial calendar balancemovements, indicative share prices and information Financial year end 31 December onrecent payments Annual General Meeting 5 May 2022 – Dividend mandates – have your dividends paid directly into 2021 final ordinary dividend payable 1 June 2022 eitheryour UK bank/building society account or an overseas 2022 half-yearly results announcement 28 July 2022 bankaccount 2022 interim ordinary dividend payable 30 November 2022 – Dividend reinvestment plan (DRIP) – have your dividend reinvested in shares purchased on the stock market 2022 full-year results: – preliminary announcement February 2023 More information on all these services can be found on Equiniti’s – Annual Report March 2023 website (shareview.co.uk). 2022 final ordinary dividend payable June 2023 ### Beware of share fraud Investment scams are often sophisticated and difficult to spot. ### Spot the warning signs How to avoid investment scams Fraudsters will often: Reject unexpected offers – contact you out of the blue; Scammers usually cold call, but contact can also come – apply pressure to invest quickly; byemail, post,word of mouth or at a seminar. If you’ve been offered an investment out of the blue, chances – downplay the risks to your money; areit’s a high risk investment orascam. – promise tempting returns that sound too good to be true; and – say that they’re only making the offer available to you or Check the FCA Warning List evenaskyou to not tell anyone else about it. Use the FCA Warning List to check the risks of a potential investment – you can also search to see if the firm is ### If you’re suspicious, report it known to be operating without their authorisation. You can report the firm or scam to the FCA by contacting Get impartial advice theirConsumer Helpline on 0800 111 6768 or using the Get impartial advice before investing – don’t use an reportingform using the link shown below. adviser from thefirm that contacted you. If you’ve lost money in a scam, contact Action Fraud on03001232040 or www.actionfraud.police.uk Be ScamSmart and visit www.fca.org.uk/scamsmart 276 BAE Systems plc Annual Report 2021 ## Download the ## BAE Systems ## Investor App ### BAE Systems’ Investor Relations App ### gives you all the latest investor and ### financial media information you need. Connect with BAE Systems investors investors.baesystems.com ® Printed by Park Communications on FSC -certified paper. Park works to the EMAS standard and its Environmental Management Systemiscertified to ISO 14001. 100% of the inks used are vegetable oil based, 95% of press chemicals arerecycled for further use and, onaverage 99% of any waste associated withthisproduction will be recycled. ® This document is printed on Novatech Matt paper, made of material from well-managed, FSC -certified forestsand other controlled sources and Nautilus,containing 100% recycled fibre. This is a certified climate neutral print product for which carbon emissions havebeen calculated and offset by supporting recognised carbon offset projects. The carbon offset projects are audited and certified according tointernational standards and demonstrably reduce emissions. The climate neutrallabel includes a unique ID number specific to this product which canbetracked at www.climatepartner.com, giving details of the carbon offsetting process including information on the emissions volume and thecarbon offset project being supported. Designed and produced by Radley Yeldar. BAE Systems plc 6 Carlton Gardens London SW1Y 5AD United Kingdom T +44 ( 0 ) 1252 373232 Registered in England and Wales, No. 1470151 © BAE Systems plc 2022. All rights reserved baesystems .com BAE SYSTEMS is a registered trade mark of BAE Systems plc. ### Independent auditor’s reasonable assurance report on the compliance of BAE Systems plc’s European ### Single Electronic Format (ESEF) prepared Annual Financial Report with the European Single Electronic ### Format Regulatory Technical Standard (‘ESEF RTS’) as required by the Financial Conduct Authority ### (FCA) Disclosure Guidance and Transparency Rule (DTR) 4.1.14R ### To the Members of BAE Systems plc ### Report on compliance with the requirements for iXBRL mark up (‘tagging’) of consolidated financial ### statements included in the ESEF-prepared Annual Financial Report ### We have undertaken a reasonable assurance engagement on the iXBRL mark up of consolidated ### financial statements for the year ended 31 December 2021 of BAE Systems plc (the “company”) ### included in the ESEF-prepared Annual Financial Report prepared by the company. ### Opinion ### In our opinion, the consolidated financial statements for the year ended 31 December 2021 of the ### company included in the ESEF-prepared Annual Financial Report, are marked up, in all material ### respects, in compliance with the ESEF RTS. ### The directors’ responsibility for the ESEF-prepared Annual Financial Report prepared in compliance ### with the ESEF RTS ### The directors are responsible for preparing the ESEF-prepared Annual Financial Report. This ### responsibility includes: ### • the selection and application of appropriate iXBRL tags using judgement where necessary; ### • ensuring consistency between digitised information and the consolidated financial ### statements presented in human-readable format; and ### • the design, implementation and maintenance of internal control relevant to the application ### of the ESEF RTS. ### Our independence and quality control ### We have complied with the independence and other ethical requirements of the Financial Reporting ### Council’s (the ‘FRC’s’) Ethical Standard as applied to listed public interest entities, and we have ### fulfilled our other ethical responsibilities in accordance with these requirements. ### We apply International Standard on Quality Control 1 and, accordingly, maintain a comprehensive ### system of quality control including documented policies and procedures regarding compliance with ### ethical requirements, professional standards and applicable legal and regulatory requirements. ### Our responsibility ### Our responsibility is to express an opinion on whether the electronic mark up of consolidated financial ### statements complies in all material respects with the ESEF RTS based on the evidence we have ### obtained. We conducted our reasonable assurance engagement in accordance with International ### Standard on Assurance Engagements (UK) 3000, Assurance Engagements Other than Audits or ### Reviews of Historical Financial Information (‘ISAE (UK) 3000’) issued by the FRC. ### A reasonable assurance engagement in accordance with ISAE (UK) 3000 involves performing ### procedures to obtain reasonable assurance about the compliance of the mark up of the consolidated ### financial statements with the ESEF RTS. The nature, timing and extent of procedures selected depend ### on the practitioner's judgement, including the assessment of the risks of material departures from the ### requirements set out in the ESEF RTS, whether due to fraud or error. Our reasonable assurance ### engagement consisted primarily of: ### • obtaining an understanding of the ESEF RTS mark up process, including internal control over ### the mark up process relevant to the engagement; ### • testing the operating effectiveness of relevant controls over the mark up process; ### • reconciling the marked up data with the audited consolidated financial statements of the ### company dated 31 December 2021; ### • evaluating the appropriateness of the company’s mark up of the consolidated financial ### statements using the XBRL mark-up language; ### • evaluating the appropriateness of the company’s use of iXBRL elements selected from a ### permitted taxonomy and the creation of extension elements where no suitable element in ### the permitted taxonomy has been identified; and ### • evaluating the use of anchoring in relation to the extension elements. ### In this report we do not express an audit opinion, review conclusion or any other assurance ### conclusion on the consolidated financial statements. Our audit opinion relating to the consolidated ### financial statements of the company for the year ended 31 December 2021 is set out in our ### Independent Auditor’s Report dated 23 February 2022. ### Use of our report ### Our report is made solely to the company’s members, as a body, in accordance with ISAE (UK) 3000. ### Our work has been undertaken so that we might state to the company those matters we are required ### to state to them in this report and for no other purpose. To the fullest extent permitted by law, we do ### not accept or assume responsibility to anyone other than the company and the company’s members ### as a body for our work, this report, or for the conclusions we have formed. ### John Adam (Senior statutory auditor) ### For and on behalf of Deloitte LLP ### Statutory Auditor ### London, United Kingdom ### 29 March 2021