CORPORATES CREDIT OPINION 24 January 2017 Update RATINGS Siemens Aktiengesellschaft Domicile Germany Long Term Rating A1 Type LT Issuer Rating - Fgn Curr Outlook Stable Please see the ratings section at the end of this report for more information. The ratings and outlook shown reflect information as of the publication date. Contacts Martin Kohlhase 49-69-70730-719 VP-Sr Credit Officer [email protected]Janko Lukac 49-69-70730-925 Associate Analyst [email protected]Matthias Hellstern 49-69-70730-745 MD-Corporate Finance [email protected]Siemens Aktiengesellschaft Update of Credit Opinion Summary Rating Rationale Siemens A1 ratings reflect (1) its diversified revenue base by product and geography; (2) leading market positions in a range of key industrial technologies and services with high barriers to entry; and (3) a strong liquidity profile supported by a well-balanced debt maturity profile, sizeable cash and cash equivalents on hand as well as good access to the capital markets. The ratings also take into account the (1) leverage of debt/EBITDA of 2.6x which currently is elevated for the rating category as a result of debt-funded acquisitions and the increase in pension deficit as a result of low discount rates; (2) underperforming businesses, although there has been some operating performance improvements over the last quarters, most notably in Wind Power and Renewables as well as Energy Management; and (3) the growing asset size of its finance captive, which has almost doubled in the last seven years to €26.5 billion. This is adding the risks typical for a vendor financing operation to the usual risks that a manufacturing company is usually exposed to. This is mainly balanced by Siemens' ability to offer its customers bespoke financing solutions, which is differentiating Siemens from some of its competitors. Exhibit 1 Moody's expects elevated leverage to slightly decrease during fiscal 2017 *This represents Moody's forward view; not the view of the issuer. Source: Moody's Credit Strengths » Global scale, multiple market leadership positions, broad customer and geographic diversification » Strong R&D capabilities, complemented by acquisitions funded through asset disposals » Strong liquidity profile, underpinned by diversity of internal and external sources
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CORPORATES
CREDIT OPINION24 January 2017
Update
RATINGS
Siemens AktiengesellschaftDomicile Germany
Long Term Rating A1
Type LT Issuer Rating - FgnCurr
Outlook Stable
Please see the ratings section at the end of this reportfor more information. The ratings and outlook shownreflect information as of the publication date.
Siemens AktiengesellschaftUpdate of Credit Opinion
Summary Rating RationaleSiemens A1 ratings reflect (1) its diversified revenue base by product and geography; (2)leading market positions in a range of key industrial technologies and services with highbarriers to entry; and (3) a strong liquidity profile supported by a well-balanced debt maturityprofile, sizeable cash and cash equivalents on hand as well as good access to the capitalmarkets.
The ratings also take into account the (1) leverage of debt/EBITDA of 2.6x which currently iselevated for the rating category as a result of debt-funded acquisitions and the increase inpension deficit as a result of low discount rates; (2) underperforming businesses, althoughthere has been some operating performance improvements over the last quarters, mostnotably in Wind Power and Renewables as well as Energy Management; and (3) the growingasset size of its finance captive, which has almost doubled in the last seven years to €26.5billion. This is adding the risks typical for a vendor financing operation to the usual risks thata manufacturing company is usually exposed to. This is mainly balanced by Siemens' abilityto offer its customers bespoke financing solutions, which is differentiating Siemens fromsome of its competitors.
Exhibit 1
Moody's expects elevated leverage to slightly decrease during fiscal 2017
*This represents Moody's forward view; not the view of the issuer.Source: Moody's
Credit Strengths
» Global scale, multiple market leadership positions, broad customer and geographicdiversification
» Strong R&D capabilities, complemented by acquisitions funded through asset disposals
» Strong liquidity profile, underpinned by diversity of internal and external sources
» Recent M&A activity (e.g. Dresser-Rand, CD-adapco, Gamesa merger and Mentor Graphics) and increased pension deficit leaveleverage elevated at 2.6x
» Underperforming businesses remain a constraint for group performance
» Growing asset size of Siemens Financial Services (SFS), its finance captive arm
Rating OutlookThe stable rating reflects our expectation that Siemens will remain one of the leading players in the global power generation, industrialautomation and healthcare equipment sectors, and that even with cyclical pressures and periodic shareholder return initiatives, thecompany's operating performance and financial policies will remain solidly supportive of an A1 rating over the long-term, as evidencedby EBITA margins of above 10% and debt to EBITDA around 2.0x (Moody's adjusted). With leverage of 2.6x (as of September 30, 2016)and FCF/Debt of 4.6%, the rating is currently weakly positioned in the A1 rating category. However, Siemens' A1 rating factors in ourexpectation that the company's leverage and cash flow generation will improve over the next 12-18 months.
Factors that Could Lead to an UpgradeThe rating could be raised if there were reduced competitive pressures throughout Siemens' broad operations. Additionally, revenuegrowth combined with EBITA margins sustained above 13% whilst maintaining a solid financial profile, as evidenced by adjusted debtto EBITDA sustained below 1.5x, and strong liquidity could also contribute to upwards rating pressure.
Factors that Could Lead to a DowngradeConversely, downward rating pressure could develop if there was evidence of a sustained erosion in Siemens' competitive strength,profitability and cash flow generation, particularly with respect to the group's core businesses. In the case of a more aggressive financialpolicy, this would be either through additional debt-funded acquisitions or share buybacks exceeding free cash flow generation.This erosion would lead to debt metrics below expectations for the current rating on a sustained basis, as evidenced by a debt toEBITDA ratio sustained above 2.5x (Moody's adjusted). Negative rating pressure could also result from a weakening of profitability, asevidenced by EBITA margin meaningfully below 10% on a sustained basis, or weak asset quality in Siemens' captive finance operations.
Key Indicators
Exhibit 2
[1] All ratios are based on 'Adjusted' financial data and incorporate Moody's Global Standard Adjustments for Non-Financial Corporations.Source: Moody's Financial Metrics™
Siemens' very large and diversified portfolio of industrial businesses spans over a broad range of customers, regions and end markets,with a majority of businesses having leading market positions on a global scale, supported by high barriers to entry. The maincontributors to the group's industrial operating profits are the Power and Gas, Healthcare and Digital Factory divisions, togetherrepresenting 67.3% (as of fiscal 2016 ending 30 September 2016) of the profits from its industrial operations.
This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page onwww.moodys.com for the most updated credit rating action information and rating history.
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The market presence, reputation and consistent investments, in particular in R&D and more recently complemented by acquisitions,continue to translate in multiple market leading positions. The combination of Siemens and Gamesa's wind power businesses willcreate the world’s largest wind energy company. In 2015, Siemens had an 8% market share in installed capacity, while Gamesa had a6% market share. The combined 14% would surpass Vestas Wind Systems A/S (unrated, 13%), Goldwind New Energy HK InvestmentLtd. (unrated, 11%) and General Electric Company (A1 stable, 9%).
Siemens holds number 1 or 2 market positions in the areas of gas turbines, power transmission and distribution equipment andsolutions. Its Digital Factory division holds leading market positions globally in programmable logic controllers, industrial switching andindustrial software. This position has been further strengthened by the recent acquisitions of CD adapco and the envisaged acquisitionof Mentor Graphics, as announced in November 2016. Following the integration of Mentor Graphics, Siemens will be the first providerof a fully integrated digital enterprise software suite to design, simulate, build and analyse products and the respective productionprocesses.
The Process Industries and Drives division is a global leader in inverters and controls, motors, generators and gear-boxes. TheHealthcare division is one of the leading companies in imaging equipment and in-vitro diagnostics. Each of these divisions has multiplebusiness units that compete against a range of strong companies worldwide.
Strong R&D capabilities, complemented by acquisitions funded through asset disposals
Siemens has a strong commitment to research and development (R&D) as witnessed by the sizeable annual R&D spent of €4.7 billionin fiscal 2016, or 5.9% of sales, and intends to increase its R&D spending towards €5.0 billion in fiscal 2017. Siemens is amongst thelargest patent application and grant filers in Europe as well as globally. The group holds more than 59,800 patents and employs morethan 33,000 staff in R&D.
In order to complement its internal research and product development, Siemens has a long history of strategically complementingits product and service portfolio with acquisitions. An important source of funding for acquisitions have been disposals of non-core activities, such as the white goods joint venture BSH (in 2015) the sale of the hearing aid business Sivantos (in 2015) and thedivestment of (loss-making) IT services company Unify. The group's portfolio has sufficient depth and breadth to allow for furtherfuture asset disposals and we anticipate Siemens to continue to complement the funding of acquisitions through such measures.
Additionally, Siemens is currently in the process to prepare a minority listing of its Healthineers business, to participate actively in theongoing transformation of the healthcare market. By listing its healthcare business, Siemens will increase its strategic and financialflexibility to invest into new growth areas and to provide Healtineers with the financial flexibility on a standalone basis to react tochanging market conditions. However, with the listing Siemens will lose full access on Healthineers free cash flow standing at €2,154million in fiscal 2016 (28.7% of the groups industrial free cash flow), given the existence of outside minority shareholders.
Recent M&A activity and increased pension deficit leave leverage elevated at 2.6x
Siemens in June 2015 closed the Dresser-Rand transaction, for which it raised $7.75 billion (€6.8 billion) of debt in May 2015, andannounced the acquisition of CD-adapco in January 2016 (closed in April) for a consideration of $970 million. In June, Siemens andGamesa (unrated) announced the combination of their wind power businesses. As part of this transaction, Siemens is offering Gamesashareholders a cash payment of €1.05 billion. The transaction is expected to close in the first quarter of the calender year 2017. Furtherin November 2016 the group announced to acquire the design automation and industrial software provider Mentor graphics for around€4.2 billion to complete its Product Lifecycle Management (PLM) platform, which the company expects to close in Q2 of the calenderyear 2017.
Due to (1) the closed acquisitions, (2) the increased Moody's adjusted pension liabilities to €13.1 billion in fiscal 2016 from €9.3 billionin fiscal 2015 as a result of low discount rates, and (3) a minor change in our SFS adjustment to better reflect the impact of SiemensFinancial Services on its industrial business; the groups adjusted debt/EBITDA ratio has increased to 2.6x by the end of September 2016,which is above the threshold to maintain the current rating. However, Siemens leverage should reduce to below 2.5x by the end ofMarch 2017, as the company already repaid in October a $1.750 million maturity and the 5.125% €2.0 billion note is coming due inFebruary 2017, which we expect to be redeemed out of the company's sizeable cash balance.
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In 2017 the expected closing of the Mentor acquisition as well as the Gamesa transaction will stretch the company's already elevatedleverage beyond our quantitive guidance of debt/EBITDA at 2.5x. Therefore, we expect Siemens to fund the majority of the combinedconsideration for both transactions of approximately €5.3 billion by using internal cash sources and cash flows and not to materiallyincrease its gross debt. This in combination with the company guiding towards higher profitability margins and better cash flows in itscore industrial business in fiscal 2017 and the cash inflow from the conversion of the warrants of Siemens' August 2017 bonds worth$1.5 billion (detachable warrants at a strike price of €98.14 per share (closing price of €117.0 on January 20, 2017) - which we expect toresult in a cash inflow of about €1.0 billion, should result in leverage trending again below 2.5x over the course of 2017.
Underperforming businesses, remain a constraint for group performance
Despite Siemens' strength and improvements in rising its industrial business profit margin (company definition) throughout almost alldivisions, by combined 0.7pp to 10.8% in fiscal 2016, around 15% (around €14.5 billion of sales) of its business portfolio (we estimatein significant part of this activities to be reported in the Energy Management and Process Industries & Drives) has generated margins ofaround 3%, far below the groups internal expectations. Whilst progress has been made in fixing underperforming businesses, which in2015 generated profit margin of 1% close to break even, significant progress need to be done to achieve management target of around6% in 2017 and even above 8% by 2020).
Siemens has a long track record in terms of “execution” challenges, particulary in activities related to Energy Management and Mobilityand as evidenced by sizeable write offs and restructuring charges in the past. These charges have been a drag on operating profitabilityand cash flow generation. However, Siemens has responded to these charges by focusing on operational excellence and did notexperience any significant charge over the course of 2016. To offset price inflation and to achieve productivity gains, the companytargets annual productivity savings of between 3% and 5% and has concluded by the end of September 2016 a €1.0 billion cost savingprogramme. This was one of the drivers of the improvement in Moody's adjusted EBITA margins to 10.7% at the end of fiscal 2016from 9.1% in the previous year.
Growing asset size of finance captive
Siemens Financial Services (SFS) is one of nine divisions and responsible for managing a portfolio of €26.5 billion of assets, includingproject and commercial finance, equity investments and financial leases. SFS' activities support the other eight, industrial business-related divisions and hence are an integral part of Siemens' strategy. Despite the high growth rates of SFS' asset size in the last six years(2010: €12.5 billion, 2016: €26.5 billion; compared to revenues for the Siemens group 2010: €69.0 billion, 2016: €79.6 billion), weexpect future growth of SFS' assets to be more in line with revenue growth of the group, i.e. in the low to mid single digit range (%).
The counterparties of SFS are strictly other businesses and are not consumer-related. This also holds true for Siemens Bank GmbH(A1 stable), a wholly-owned bank that is regulated. SFS benefits from its access to Siemens global deal flow and to sector specialistswith technical know how. Funding is obtained through Siemens treasury operations, and is maturity and currency matched. As partof its mandate, SFS is engaged in long-term project finance transactions in line with Siemens' project business. Although the life ofsome projects, especially those related to infrastructure and energy projects, is long, SFS is engaged in the early years (especially duringthe construction phase) of the overall life span of a project to facilitate the respective financing. Consequently, SFS may not holdthe exposure over the full project life cycle. Therefore we expect average maturities for SFS to be between three and four years andgenerally believe the portfolio is well-diversified and with low defaults.
We monitor SFS' asset growth, gearing and income before income taxes to assess any potential impact its activities might have on theindustrial business of Siemens. Starting with year end 2016 we have changed our SFS adjustment due to the growing portfolio of SFS.We adjust Siemens' numbers by the respective amounts, which we can attribute to SFS, such as sales (€824 million), operating profits(€653 million), depreciation & amortization (€348 million) interest payments (€512 million), debt (€22.4 million) as well as cash flows(€517 million). As a result of the adjustment change, Siemens deb/EBITDA increased by 0.1x to 2.6x as in the old adjustment we onlyexcluded the interest payments due to SFS from Siemens operating profits and did not consider SFS earnings and D&A. Further, wealso started to adjust Siemens cash flows by SFS' cash flows, which resulted in a decrease of the FCF/debt ratio from 6.3% to 4.6%. Toachieve a better comparability we also have adjusted Siemens 2015 numbers.
4 24 January 2017 Siemens Aktiengesellschaft: Update of Credit Opinion
Liquidity AnalysisStrong liquidity profile, underpinned by diverse internal and external sources
Siemens' liquidity is strong. For the year ending September 2016 the company reported €10.6 billion of cash and cash equivalents,which was up by €647 million against the previous year, largely due to stronger funds from operations (Moody's definition) amountingto nearly €8.9 billion comparing to an average of €8.2 billion over the past five years.
Among the external liquidity sources are, a €4.0 billion syndicated credit facility (maturing in June 25, 2021), a $3.0 billion syndicatedcredit facility maturing in September 27, 2020 and a €450 million revolving bilateral credit facility maturing in September 2017. As ofSeptember 2016 the equivalent of €7.1 billion of lines of credit were unused.
The multiple sources of liquidity allow Siemens to cover cash uses such as working cash (approximated as 3% of annual sales), workingcapital movements, capital expenditures (5-year average: €3.0 billion), dividend payments (5-year average: €2.8 billion) and share buy-backs (5-year average: €1.5 billion). Siemens has had the capacity to fund transactions of a certain size, such as CD-adapco or Gamesa(both around €1.0 billion), with existing sources, whilst it reverted to the debt capital market for the funding of Dresser-Rand (about$7.8 billion). We expect Siemens to finance the acquisition of Mentor Graphics (around $4.5 billion) by mainly using internal cashsources including its cash generation in fiscal 2017.
Further, Siemens also has $1.5 billion worth of bonds that are due in August 2017 and that have detachable warrants exercisable at astrike price of €98.14 per share. Provided the share price remains above the strike price (closing price of €117.0 on January 20, 2017), weexpect warrant holders to convert their warrants into Siemens shares, resulting in an inflow of about €1.0 billion.
ProfileSiemens Aktiengesellschaft (Siemens) is one of the world's leading manufacturers of power generation equipment and energymanagement systems, industrial automation products and services, building technologies, transportation equipment, as well ashealthcare equipment and diagnostics. The group in fiscal year 2016 (ending September 30) recorded revenues of €79.6 billion. As ofSeptember 2016 end the order backlog of industrial businesses was €86.5 billion.
Peer Group:Siemens main pees include ABB Ltd. (A2 STA), Emerson Electric Company (A2 STA), General Electric Company (A1 STA) and SchneiderElectric SE (A3 NEG).
Exhibit 4
Siemens' Leverage In Line With Its Peer GroupExhibit 5Siemens EBITA Margins On The Lower End Of Its Peer Group
Source: Moody's Investors Service Source: Moody's Investors Service
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Rating Methodology and Scorecard FactorsMAPPING TO MOODY'S GLOBAL MANUFACTURING METHODOLOGY
Utilizing the rating factors identified in our Global Manufacturing rating methodology, Siemens' rating factors indicates an A2 gridindicated outcome, one notch below the assigned rating. While Siemens' scale and financial policy point to Aaa/Aa outcomes, thecompany scores weaker on operating margins, leverage and free cash flow-based metrics. Moody's 12- to 18-month forward view ofSiemens' financial profile suggests a grid indicated outcome of A1, reflecting our expectation of modest improvement in operatingperformance, cash generation and a more conservative financial policy over the rating horizon evidenced by debt/EBITDA movingtowards 2.0x.
Exhibit 6
Methodology Grid Siemens Aktiengesellschaft
1] All ratios are based on 'Adjusted' financial data and incorporate Moody's Global Standard Adjustments for Non-Financial Corporations.[2] As of 9/30/2016; Source: Moody's Financial Metrics™[3] This represents Moody's forward view; not the view of the issuer; and unless noted in the text, does not incorporate significant acquisitions and divestitures.Source: Moody's
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8 24 January 2017 Siemens Aktiengesellschaft: Update of Credit Opinion
