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Case study

“Siemens Corporate Strategy”


Solutions to quantitative questions – Bachelor Program

Chair of Management
Friedrich-Alexander-Universität Erlangen-Nürnberg

Summer term 2009

Prof. Dr. Harald Hungenberg


Dr. Andreas König
Friedrich-Alexander-Universität Erlangen-Nürnberg
Lehrstuhl für Unternehmensführung

Siemens CorporateSiemens
StrategyCase
– Teaching
Study SS09
Note 1
The main part of the case focuses on the question of “Does
Siemens create value?”
First exercise

After reading through the notes on his table, Peter Löscher presses a button on his
telephone and says, “Mrs. Müller, please connect me with corporate strategy. I
need to talk to Franz Steinhoff.” After a few seconds, he speaks with Steinhoff.
“Steinhoff, I want you to comprise me a report on the following questions:

1. Does our corporate centre create value?


2. What’s the situation of our portfolio right now and what should we
do with our portfolio in the future?”

Imagine, you are Franz Steinhoff, Head of Corporate Strategy. Work with your
team to find answers to Peter Löscher’s question. When discussing the answers,
take into account the opportunities and threats, strength and weaknesses of
Siemens and the overall strategic values of this company.

Siemens Corporate Strategy – Teaching Note 2


When computing the conglomerate discount, you need to
take into account certain assumptions
Assumptions for question 1

Apply the DCF-method (entity approach) in order to calculate the stand-alone


values of the divisions and compare them with the market value of Siemens. Page
97 and 98 (diploma: page 52 and 53) of your course package are helpful. Consider
that the market value of Siemens correlates with the equity value of the divisions.
Besides exhibit 6, assume the following when completing your task:

• Equity ratio (market view) 2007: 65%


• Stock value September 2007: 96.42 EUR
• Stock amount: 1,027,271,000
• g = 2%

Note: For all computations round intermediate results to 2 decimal places.

Siemens Corporate Strategy – Teaching Note 3


To prepare a portfolio discussion, you choose to visualize
the situation in a BCG traffic light portfolio (I)
Assumptions for question 2

Peter Löscher wants you to analyze the current portfolio. You decide to apply the
BCG traffic light portfolio. This portfolio consists of three dimensions (see page 90
in your course package; diploma: page 40):

1. Strategic assessment
2. Financial performance
3. Relative share of total revenues (size of bubbles)

Siemens Corporate - Exercise/Aufgabenstellung 4


To prepare a portfolio discussion, you choose to visualize
the situation in a BCG traffic light portfolio (I)
Assumptions for question 2

(1) Strategic assessment. The strategic assessment is an index comprising market


growth and relative market share, which, in turn, determine the market
attractiveness/competitive position sub-portfolio (see page 82 in your course
handouts; diploma: page 25). Assume the following rates of market growth:

• A&D 18%
• I&S 1% • PG 21%
• SBT 5.5% • PTD 18%
• Osram 2.8% • Med 19.7%
• TS -1% • SIS -6%

The relative market share of A&D is missing, but you know that the strongest
competitor of A&D, ABB, had revenues amounting to EUR 13,382 million in 2007.
Discuss the respective cut-off points. For market growth, consider the targets
formulated in the corporate strategy (exhibit 2). Furthermore, assume that, in 2007,
the average growth rate of all industries in which Siemens is active, was 6%. For
relative market share, consider choosing 1 as the cut-off point. However, you may
also want to use a different benchmark.
Siemens Corporate - Exercise/Aufgabenstellung 5
To prepare a portfolio discussion, you choose to visualize
the situation in a BCG traffic light portfolio (II)
Assumptions for question 2

(2) Financial performance. The financial performance is an index comprising Spread


(2007) (ROCE
(ROCE 2007 - WACC
2007 - WACC
2007) (y-axis)
2007) (y-axis)
and ∆ EVA
and (2005-2007)
∆ EVA (2005-2007)
(x-axis),(x-axis),
which, in which,
turn,
in
determine
turn, determine
the profitability/value
the profitability/value
enhancement
enhancementsub-portfolio.
sub-portfolio.
You You first
firstneed
need to
compute ROCE and EVA in 2007 for each division. To do so, you calculate the
NOPAT (2007) for each division. Assume a tax burden of 40%. Then you compute
the Spread
Spread for
for2007
2007and
andthethe
∆ EVA
∆ EVA2005-2007
2005-2007
(EVA(EVA
20072007
- EVA- 2005).
EVA 2005).When When
doing
doing
so, assume
so, assume
the following
the following
values values
for EVA
for EVA
(2005)(2005)
(in millions
(in million of euros):
EUR):
• A&D 420
• I&S -60
• SBT -8
• Osram 114
• TS -26
• PG 334
• PTD -41
• Med 254
• SIS -444
Page 490 in
(Hungenberg,
Hungenberg2009)
(2009)offers
offersinformation
information
about
aboutsetting
settingthe
thecut-off
cut-offpoints.
points.
Siemens Corporate Strategy – Teaching Note 6
To prepare a portfolio discussion, you choose to visualize
the situation in a BCG traffic light portfolio (III)
Assumptions for question 2

(3) Relative share of total company revenues. Use the relative share of total
company revenues to display the importance of each division (size of bubbles).
This dimension is common to every of the three portfolios.

Consolidate the strategic assessment and the financial performance sub-portfolios


to the traffic light portfolio. Use a scoring-approach and assume that the respective
dimensions of the strategic assessment index and the financial performance index
are equally valued. For all calculations you can draw on exhibit 6 and 7.

Siemens Corporate Strategy – Teaching Note 7


Future cash flows can be derived from the business and
profit plans
Estimation of future cash flow per year of the planning period

Sales Cost of Cost of Other EBITDA Depri- EBIT


material personnel costs ciation/
Amort.

EBIT Taxes* Depri- Changes Cash Invest- Changes Free


ciation/ of flow ment of wor- cash
Amort. reserves king flow
* In case of 100 % equity financing capital
8
The company value 'as is' can be assessed on the basis of
projected future cash-flows
Net present value/discounted cash flow model of valuation

1 Estimate future cash flow

2004 2005 2006 2007 2008 Continuing


value
Determine cost
2 of capital
Cost of
equity
Cost of
capital
Cost of
debt
DCF 3 Discount and aggregate

Siemens Corporate Strategy – Teaching Note 9


Assessing the continuing/residual value is a critical step

Forecast of cash flows and continuing value

Detailed cash
flows

Derive cash flows


in detail from
business and profit 2004 2005 2006 2007 2008
plans
• Continuing value =
FCF 2008 (1+g) / r-g
r = cost of capital
Continuing value (often equals WACC)
g = development index
Calculate continuing • Typical assumption:
value based on the (g=0) cash flows continue
cash flow of the 2008 unchanged eternally Continuing
last planning period value
• If changes can be proved:
(eternal rate) g>0 (e.g. sustainable
competitive advantages)
or g<0 (declining business)

Siemens Corporate Strategy – Teaching Note 10


Using the discounted cash flow method you arrive at the
equity value of each division
Calculation of equity value for A&D (in bn €)

42.909
WACC: 7.5 % 46.345*
g=2%
15.018
2.499
2.154
1.857 27.891

2007 2008 2009 Continuing value

1.727 1.864 2.012 37.306

DCF Debt Equity


value
* Residual value: 2.499*(1+0.02) / (0.075-0.02) = 46.345
Siemens Corporate Strategy – Teaching Note 11
Solution – DCF and equity value to be computed by students
Free Free Free Equity
Operations Groups WACC DCF
Cashflow Cashflow Cashflow value
(all values in
millions of EUR)
2007 2007 2008* 2009* 2007 2007
Automation and Drives (A&D) 7.50% 1,857 2,154 2,499 42,909 27,891
Industrial Solutions and
8.00% 397 458 529 8,319 5,407
Services (I&S)
Siemens Building
8.00% 340 417 510 7,960 5,174
Technologies (SBT)
Osram 7.50% 392 407 422 7,356 4,712

Transportation Systems (TS) 8.00% 335 485 703 10,771 7,001

Power Generation (PG) 8.00% 2,019 2,480 3,045 47,506 30,879


Power Transmission and
8.00% 515 703 959 14,783 9,609
Distribution (PTD)

Medical Solutions (Med) 8.00% 1,380 1,617 1,894 29,272 19,323

Siemens IT Solutions and


8.50% 18 23 29 415 270
Services (SIS)

Total Operations Groups 7.94%** 7,253 8,744 10,590 169,746*** 110,335***


*adjusted by means of annual EBITDA growth
** assumed
*** note divergences due to rounding errors Siemens Corporate Strategy – Teaching Note 12
The comparison of the equity value with the market value of
Siemens reveals a conglomerate discount of 10%
External assessment of Siemens' groups values versus market value (in bn €)

110”4*
Conglomerate
A&D 27“9 10% discount
I&S 5“4
SBT 5“2 99“0
Osram 4“8 Stock
TS 7”0 value
PG 30“9
*
PTD 9“6
Med 19“3 Stock
amount
SIS 0"3
Equity value of Sum of the Market
divisions parts value 2007

*note divergences due to rounding errors

Siemens Corporate Strategy – Teaching Note 13


In order to prepare BCG’s traffic light portfolio, you first have
to calculate the necessary dimensions
To be computed by students

Relative
Relative Market
Operations Groups NOPAT market ROCE Spread EVA ∆ EVA
revenues growth
(in millions of euros) share
2007 2007 2007 2007 2007 2007 2007 2005-2007
Automation and Drives
1,255 21% 18.0%* 115% 17.9% 10.4% 728 308
(A&D)
Industrial Solutions and
244 12% 0.9%* 47%* 20.3% 12.3% 148 207
Services (I&S)
Siemens Building
214 7% 5.5%* 45%* 11.8% 3.8% 69 77
Technologies (SBT)
Osram 289 6% 2.8%* 67%* 14.5% 7.0% 139 25
Transportation Systems
119 6% -0.9%* 32%* 40.1% 32.2% 95 121
(TS)
Power Generation (PG) 690 17% 20.9%* 60%* 50.3% 42.3% 580 246
Power Transmission and
372 10% 18.1%* 49%* 19.9% 11.9% 223 264
Distribution (PTD)
Medical Solutions (Med) 737 13% 19.7%* 63%* 9.0% 1.0% 79 -175
Siemens IT Solutions and
146 7% -5.8%* 42%* 57.6% 49.1% 124 568
Services (SIS)
Total Operations 2,213 1,669
4,064 100%
Groups Ø 246 Ø 185
* Not to be computed by students
Siemens Corporate Strategy – Teaching Note 14
Computing the variables for FY 2007 (computation based on exhibit 6 and 7, assignment on page 15-17 of this
teaching note)
Overview:
• NOPAT = EBIT – tax (40%) = EBIT * 0,6
• Relative revenues = revenues of each division / total company revenues (determines the size of bubbles)
NOTE: Students will not have time to draw sizes of bubbles perfectly, however: 10%=1cm could serve as
an indication
• Market growth given in Assignment
• Relative market share = own revenues / revenues of leading competitor (computation by students just for
A&D)
• Spread = ROCE - WACC = (NOPAT / capital employed) - WACC
• EVA = NOPAT – cost of capital = NOPAT – (capital employed * WACC)
• ∆ EVA (2005-2007) = EVA (2007) – EVA (2005)

Siemens Corporate Strategy – Teaching Note 15


Market growth and relative market share are the dimensions
which determine the strategic assessment of the divisions
Strategic Assessment sub-portfolio

Market growth 24 Remember:


2006-2007 PG It is possible
(in %) 20 Med to choose different
PTD A&D cut-off points!
16

12
8
SBT
4
Osram
0 I&S
TS
-4
SIS
-8

-12
Relative market
0,0
0.0 0,2
0.2 0,4
0.4 0,6
0.6 0,8
0.8 1,0
1.0 1,2
1.2 share 2007
Siemens Corporate Strategy – Teaching Note 16
Spread and ∆ EVA are the dimensions which determine the
financial performance of the divisions
Financial performance sub-portfolio

Spread 2007 50 Remember:


(in %) PG It is possible
40 SIS to choose different
TS cut-off points!
30
20 I&S
Osram
10 PTD

0 Med
SBT A&D
-10
-20
-30
-40
-50
∆ EVA
-600 -400 -200 0 200 400 600 2005-2007
Siemens Corporate Strategy – Teaching Note 17
Use a scoring approach to evaluate the respective dimen-
sions of the strategic assessment and financial performance
Scoring approach in order to prepare BCG‘s traffic light portfolio

Strategic Assessment Financial Performance


Operations Groups
Share Growth Total score ∆ EVA Spread Total score
Automation and Drives (A&D) 5 5 5 4 5 4.5
Industrial Solutions and
2 1 1.5 3 5 4
Services (I&S)
Siemens Building
2 2 2 1 2 1.5
Technologies (SBT)
Osram 3 1 2 1 4 2.5
Transportation Systems (TS) 2 0 1 2 5 3.5
Power Generation (PG) 3 5 4 3 5 4
Power Transmission and
2 5 3.5 3 5 4
Distribution (PTD)
Medical Solutions (Med) 3 5 4 0 1 0.5
Siemens IT Solutions and
2 0 1 5 5 5
Services (SIS)
0=0-9% 0=<0% 0=<0 0=<0%
1=10-24% 1=-0.0-2.9% 1=0-99 1=0.0-1.9%
2=25-49% 2=3.0-5.9% 2=100-199 2=2.0-3.9%
Remember: 3=50-74% 3=6.0-8.9% 3=200-299 3=4.0-5.9%
This is just one 4=75-99% 4=9.0-11.9% 4=300-399 4=6.0-7.9%
out of many solutions! 5=≥100% 5=≥12.0% 5=≥400 5=≥8.0%
Siemens Corporate Strategy – Teaching Note 18
The traffic light portfolio offers a more sophisticated analysis
than classical portfolio approaches
BCG traffic light portfolio

Strategic 5
Assessment A&D

4 Med PG

PTD
3

Osram
2 SBT
I&S
1 TS
SIS

0
Financial
0 1 2 3 4 5 Performance
Siemens Corporate Strategy – Teaching Note 19