Chairman’s Letter
Liquidity and Capital Resources
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Management Report
Liquidity and Capital Resources
 Operating cash flow |
Net debt |
| Investing cash flow |
Financial strategy |
| Financing cash flow |
Gross cash flow in 2006 amounted to €3,913 million, up 25.7 percent from the previous year (€3,114 million). The increase was mainly the result of the strong business performance in HealthCare and the inclusion of Schering AG, Berlin, Germany. Higher tax payments had a negative effect. Earnings for 2005 contained tax-free gains of €238 million from changes in our company pension plans, while in 2006 the charges resulting from the revaluation of acquired assets of Schering AG were not tax-deductible.
Net cash flow from continuing operations rose by 21.7 percent, or €701 million – including €483 million from the Schering business – to €3,928 million (2005: €3,227 million).
Net cash flow from continuing operations rose by 21.7 percent, or €701 million – including €483 million from the Schering business – to €3,928 million (2005: €3,227 million).
There was a net cash outflow of €14.7 billion for investing activities in 2006, compared to a €1.7 billion inflow in the previous year. This was chiefly attributable to disbursements totaling €15.2 billion for the Schering AG acquisition, including the purchase price payments for 96.2 percent of Bayer Schering Pharma AG, Germany* shares as of December 31, 2006, less approximately €1 billion in acquired cash. We also acquired biotech company Icon Genetics and U.S.-based Metrika for a total of €75 million.
Cash outflows for additions to property, plant and equipment (€1,534 million) and other intangible assets (€342 million) totaled €1,876 million, up €487 million from the previous year. The outflows included €137 million in capital expenditures made by Schering AG. Depreciation of property, plant and equipment came to €1,086 million, and amortization of intangible assets to €1,000 million.
Capital expenditures for property, plant, equipment and intangible assets included disbursements for the purchase of the European marketing rights for the hypertension treatments Pritor® and PritorPlus® and expenditures for the expansion of our polymers production facilities at the Caojing site near Shanghai, China. In September 2006 we inaugurated at that site a world-scale polycarbonate production facility with an initial capacity of 100,000 tons per year, a plant for the manufacture of the polyurethane raw materials monomeric and polymeric
MDI (diphenylmethane diisocyanate) from crude MDI with an annual capacity of 80,000 tons, and a production unit for hexamethylene diisocyanate with a planned initial capacity of 30,000 tons.
Receipts from sales of property, plant, equipment and other assets totaled €185 million (2005: €105 million), while the proceeds of divestitures amounted to €489 million (2005: €293 million). At the end of 2006 we received an initial payment of €395 million related to the sale of our Diagnostics business; this transaction closed at the beginning of 2007.
Receipts from noncurrent financial assets came to €850 million, compared to €1,189 million in 2005. This figure primarily included the sale of our 49.9 percent interest in GE Bayer Silicones to the other partner General Electric and the repayment of a loan made to the chemical company Symrise. This loan had been granted to the company that purchased the Haarmann & Reimer group from Bayer in 2002.
In the previous year, expenditures for acquisitions mainly comprised a payment of about €1.9 billion for the consumer health business of Roche. Receipts related to noncurrent financial assets in that year came to €1.2 billion, resulting primarily from the scheduled repayment of loans by LANXESS and the expiration of derivatives. The €293 million cash inflow from divestitures in 2005 consisted largely of the proceeds from the sale of the U.S. plasma business.
Cash outflows for additions to property, plant and equipment (€1,534 million) and other intangible assets (€342 million) totaled €1,876 million, up €487 million from the previous year. The outflows included €137 million in capital expenditures made by Schering AG. Depreciation of property, plant and equipment came to €1,086 million, and amortization of intangible assets to €1,000 million.
Capital expenditures for property, plant, equipment and intangible assets included disbursements for the purchase of the European marketing rights for the hypertension treatments Pritor® and PritorPlus® and expenditures for the expansion of our polymers production facilities at the Caojing site near Shanghai, China. In September 2006 we inaugurated at that site a world-scale polycarbonate production facility with an initial capacity of 100,000 tons per year, a plant for the manufacture of the polyurethane raw materials monomeric and polymeric
MDI (diphenylmethane diisocyanate) from crude MDI with an annual capacity of 80,000 tons, and a production unit for hexamethylene diisocyanate with a planned initial capacity of 30,000 tons. Receipts from sales of property, plant, equipment and other assets totaled €185 million (2005: €105 million), while the proceeds of divestitures amounted to €489 million (2005: €293 million). At the end of 2006 we received an initial payment of €395 million related to the sale of our Diagnostics business; this transaction closed at the beginning of 2007.
Receipts from noncurrent financial assets came to €850 million, compared to €1,189 million in 2005. This figure primarily included the sale of our 49.9 percent interest in GE Bayer Silicones to the other partner General Electric and the repayment of a loan made to the chemical company Symrise. This loan had been granted to the company that purchased the Haarmann & Reimer group from Bayer in 2002.
In the previous year, expenditures for acquisitions mainly comprised a payment of about €1.9 billion for the consumer health business of Roche. Receipts related to noncurrent financial assets in that year came to €1.2 billion, resulting primarily from the scheduled repayment of loans by LANXESS and the expiration of derivatives. The €293 million cash inflow from divestitures in 2005 consisted largely of the proceeds from the sale of the U.S. plasma business.
| Bayer Group Summary Cash Flow Statements | 2005 | 2006 |
| € million | ||
| Gross cash flow* | 3,114 | 3,913 |
| Changes in working capital/other non-cash items | 113 | 15 |
| Net cash provided by (used in) operating activities (net cash flow), continuing operations | 3,227 | 3,928 |
| Net cash provided by (used in) operating activities (net cash flow), discontinued operations | 275 | 275 |
| Net cash provided by (used in) operating activities (net cash flow), (total) | 3,502 | 4,203 |
| Net cash provided by (used in) investing activities (total) | (1,741) | (14,730) |
| Net cash provided by (used in) financing activities (total) | (1,881) | 10,199 |
| Change in cash and cash equivalents due to business activities (total) | (120) | (328) |
| Cash and cash equivalents at beginning of year | 3,570 | 3,290 |
| Change due to exchange rate movements and to changes in scope of consolidation | (160) | (47) |
| Cash and cash equivalents at end of year | 3,290 | 2,915 |
2005 figures restated
* for definition see Bayer Group Key Data
* for definition see Bayer Group Key Data
Financing activities resulted in a net cash inflow in 2006 of €10.2 billion (2005: outflow of €1.9 billion), which was chiefly due to net borrowings of €10.7 billion in connection with the financing of the Schering AG acquisition. The proceeds from the placement of 34 million new shares amounted to €1.2 billion. For details of the financing, see the table headed “Principal Financing Measures for the Schering AG Acquisition.”
Cash outflows for dividend payments – less the €176 million refund of advance capital gains tax payments made on intragroup dividends in 2004 – amounted to €535 million (2005: €440 million), while interest payments rose to €1,155 million (2005: €787 million) primarily as a result of borrowings made to finance the Schering AG acquisition.
As of December 31, 2006 the Bayer Group had cash and cash equivalents of €2,915 million, including €799 million held in escrow accounts. The latter amount comprises €710 million transferred to a guarantee account following the decision to squeeze out Bayer Schering Pharma AG’s remaining minority stockholders, and €89 million (2005: €253 million) earmarked exclusively for payments relating to civil law settlements in antitrust proceedings. In view of the restriction on its use, the liquidity held in escrow accounts was not deducted when calculating net debt.
Cash outflows for dividend payments – less the €176 million refund of advance capital gains tax payments made on intragroup dividends in 2004 – amounted to €535 million (2005: €440 million), while interest payments rose to €1,155 million (2005: €787 million) primarily as a result of borrowings made to finance the Schering AG acquisition.
As of December 31, 2006 the Bayer Group had cash and cash equivalents of €2,915 million, including €799 million held in escrow accounts. The latter amount comprises €710 million transferred to a guarantee account following the decision to squeeze out Bayer Schering Pharma AG’s remaining minority stockholders, and €89 million (2005: €253 million) earmarked exclusively for payments relating to civil law settlements in antitrust proceedings. In view of the restriction on its use, the liquidity held in escrow accounts was not deducted when calculating net debt.
| Net debt | Dec. 31, 2005 | Dec. 31, 2006 | |
| € million | |||
| Noncurrent financial liabilities as per balance sheets (including derivatives) | 7,185 | 14,723 | |
| of which mandatory convertible bond | - | 2,276 | |
| of which hybrid bond | 1,268 | 1,247 | |
| Current financial liabilities as per balance sheets (including derivatives) | 1,767 | 5,078 | |
| - Derivative receivables | 188 | 185 | |
| Financial liabilities | 8,764 | 19,616 | |
| - Cash and cash equivalents* | 3,037 | 2,116 | |
| - Available-for-sale financial assets | 233 | 27 | |
| Net debt from continuing operations | 5,494 | 17,473 | |
| Net debt from discontinued operations | 0 | 66 | |
| Net debt (total) | 5,494 | 17,539 | |
* In view of the restriction on its use, the €799 million liquidity in escrow accounts was not deducted when calculating net debt.
December 31, 2006: €2,116 million = €2,915 million - €799 million
(December 31, 2005: €3,037 million = €3,290 million - €253 million)
December 31, 2006: €2,116 million = €2,915 million - €799 million
(December 31, 2005: €3,037 million = €3,290 million - €253 million)
Net debt rose to €17.5 billion as of December 31, 2006, due mainly to the financing of the Schering AG acquisition. The disbursements for this acquisition in 2006 totaled €16.3 billion. From Schering AG we assumed financial liabilities of €0.2 billion and acquired liquid assets of €1.0 billion. The following table shows the components of the acquisition financing package and their status at year end.
| Principal Financing Measures for the Schering AG Acquisition | June 30, 2006 | Dec. 31, 2006 |
| € billion | ||
| Credit utilization: | ||
| Bridge financing (€7 billion facility) | 0.6 | 0 |
| Syndicated loan (€7 billion facility) | 7.0 | 5.7 |
| of which with a one-year term | 3.0 | 1.7 |
| Bond issues: | ||
| 3-year floating-rate Eurobond | 1.6 | 1.6 |
| 7-year fixed-rate Eurobond | 1.0 | 1.0 |
| 12-year fixed-rate sterling bond | 0.4 | 0.5 |
| Mandatory convertible bond | 2.3 | 2.3 |
| Stock placement: | ||
| New shares | - | 1.2 |
| Total | 12.9 | 12.3 |
The remainder of the purchase price for the acquired shares of Schering AG was financed mainly with liquid assets. As well as fully redeeming the bridge financing, we had also paid down the syndicated €7 billion loan to €5.7 billion by the end of 2006.
In China, Bayer secured an RMB 6.1 billion (€0.6 billion) credit line to finance the ongoing construction of a production facility for polyurethane raw materials in Caojing.
As of December 31, 2006 we had noncurrent financial liabilities of €14.7 billion, including the €1.2 billion hybrid bond issued in July 2005 and the €2.3 billion mandatory convertible bond issued in April 2006. Moody’s and Standard & Poor’s treat 75 percent and 50 percent, respectively, of the hybrid bond as equity. Both rating agencies consider the mandatory convertible bond wholly as equity. Unlike conventional borrowings, the hybrid bond thus has only a limited effect on the Group’s rating-specific debt indicators, while the mandatory convertible bond has no effect. We raised an additional €1.2 billion through the successful placement of 34 million new shares. Along with the placing of the €2.3 billion mandatory convertible bond, this completed the equity raising announced in connection with the Schering AG acquisition. The total €3.5 billion thus raised is below the €4 billion limit originally set.
In January 2007, we sold the diagnostics business to Siemens for €4.3 billion. The difference compared with the price of €4.2 billion announced in July 2006 results mainly from the transfer of higher working capital. The transaction resulted in a cash inflow of €0.4 billion at the end of 2006, while the remaining €3.9 billion was received at the beginning of 2007. We sold H.C. Starck to Advent International and The Carlyle Group. The transaction value of approximately €1.2 billion comprises a cash component of more than €0.7 billion and the assumption of financial liabilities and personnel-related commitments totaling some €0.5 billion. This sale was closed at the beginning of February 2007. We intend to use the cash inflows from these transactions, along with the proceeds of the planned sale of Wolff Walsrode to The Dow Chemical Company, to reduce net debt.
In China, Bayer secured an RMB 6.1 billion (€0.6 billion) credit line to finance the ongoing construction of a production facility for polyurethane raw materials in Caojing.
As of December 31, 2006 we had noncurrent financial liabilities of €14.7 billion, including the €1.2 billion hybrid bond issued in July 2005 and the €2.3 billion mandatory convertible bond issued in April 2006. Moody’s and Standard & Poor’s treat 75 percent and 50 percent, respectively, of the hybrid bond as equity. Both rating agencies consider the mandatory convertible bond wholly as equity. Unlike conventional borrowings, the hybrid bond thus has only a limited effect on the Group’s rating-specific debt indicators, while the mandatory convertible bond has no effect. We raised an additional €1.2 billion through the successful placement of 34 million new shares. Along with the placing of the €2.3 billion mandatory convertible bond, this completed the equity raising announced in connection with the Schering AG acquisition. The total €3.5 billion thus raised is below the €4 billion limit originally set.
In January 2007, we sold the diagnostics business to Siemens for €4.3 billion. The difference compared with the price of €4.2 billion announced in July 2006 results mainly from the transfer of higher working capital. The transaction resulted in a cash inflow of €0.4 billion at the end of 2006, while the remaining €3.9 billion was received at the beginning of 2007. We sold H.C. Starck to Advent International and The Carlyle Group. The transaction value of approximately €1.2 billion comprises a cash component of more than €0.7 billion and the assumption of financial liabilities and personnel-related commitments totaling some €0.5 billion. This sale was closed at the beginning of February 2007. We intend to use the cash inflows from these transactions, along with the proceeds of the planned sale of Wolff Walsrode to The Dow Chemical Company, to reduce net debt.
The financial management of the Bayer Group is conducted by the management holding company Bayer AG. Finance is a global resource, generally procured centrally and distributed within the Group. The foremost objectives of our financial management are to help bring about a sustained increase in corporate value and ensure the Group’s creditworthiness and liquidity. That means reducing our cost of capital, improving our financing cash flow, optimizing our capital structure and effectively managing risk.
Due to the increase in debt in connection with the acquisition of Schering AG, Standard & Poor’s in July 2006 downgraded Bayer AG’s long-term issuer rating from A with stable outlook to BBB+ with positive outlook. Also in July 2006, Moody’s confirmed our current A-3 rating, changing the outlook from stable to negative. The short-term ratings are A-2 (Standard & Poor’s) and P-2 (Moody’s). These investment-grade ratings evidence a continuing high level of creditworthiness.
Our financial strategy is geared toward the single-A rating category in order to maintain our financial flexibility. We therefore plan to use both the proceeds of divestitures and our operating cash flows to reduce net debt.
We generally pursue a prudent debt management strategy aimed at ensuring flexibility, drawing on a balanced financing portfolio. Chief among these resources – in keeping with our requirements – are a syndicated credit facility, a multi-currency commercial paper program and a multi-currency Euro Medium Term Note program. We also supplement our financing with various structured products, such as an asset-backed securities program.
We use financial derivatives to hedge against risks arising from business operations or financial transactions, but do not employ contracts in the absence of an underlying transaction. It is our policy to diminish the default risk by selecting trading partners with a high credit standing. We closely monitor the execution of all transactions, which are conducted according to Group-wide guidelines.
Further details of our risk management objectives and the ways in which we hedge all the major types of transaction to which hedge accounting is applied, along with procurement market, credit, liquidity and cash flow risks, as they relate to our use of financial instruments, are given in Note [30] to the consolidated financial statements.
Due to the increase in debt in connection with the acquisition of Schering AG, Standard & Poor’s in July 2006 downgraded Bayer AG’s long-term issuer rating from A with stable outlook to BBB+ with positive outlook. Also in July 2006, Moody’s confirmed our current A-3 rating, changing the outlook from stable to negative. The short-term ratings are A-2 (Standard & Poor’s) and P-2 (Moody’s). These investment-grade ratings evidence a continuing high level of creditworthiness.
Our financial strategy is geared toward the single-A rating category in order to maintain our financial flexibility. We therefore plan to use both the proceeds of divestitures and our operating cash flows to reduce net debt.
We generally pursue a prudent debt management strategy aimed at ensuring flexibility, drawing on a balanced financing portfolio. Chief among these resources – in keeping with our requirements – are a syndicated credit facility, a multi-currency commercial paper program and a multi-currency Euro Medium Term Note program. We also supplement our financing with various structured products, such as an asset-backed securities program.
We use financial derivatives to hedge against risks arising from business operations or financial transactions, but do not employ contracts in the absence of an underlying transaction. It is our policy to diminish the default risk by selecting trading partners with a high credit standing. We closely monitor the execution of all transactions, which are conducted according to Group-wide guidelines.
Further details of our risk management objectives and the ways in which we hedge all the major types of transaction to which hedge accounting is applied, along with procurement market, credit, liquidity and cash flow risks, as they relate to our use of financial instruments, are given in Note [30] to the consolidated financial statements.
*
The names "Bayer Schering Pharma" or "Schering" as used in this publication always refer to Bayer Schering Pharma AG, Berlin, Germany, or its predecessor, Schering AG, Berlin, Germany, respectively.
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