Siemens cannot afford margin of error

With the resignation of its chairman, a €426m ($580m) bribery scandal and an investigation into whether it helped finance a rival to its main trade union, Siemens has little reason to be happy about its public image.

But investors are much more interested in something else: the German engineering group’s second-quarter results presentation on Thursday.

The date has taken on almost mythical proportions in investor circles after a fresh-faced Klaus Kleinfeld, only just named chief executive, put a date of April 2007 two years ago on Siemens’ “long-held-but-never-achieved” margin targets.

Now with all 10 operational divisions likely to achieve, or come close to, targets that many investors wrote off as hopelessly optimistic a few years ago, the focus is on what will come next. “An awful lot is riding on this,” says Ben Uglow, analyst at Morgan Stanley.

He should know. He is one of Siemens’ top 15 analysts, all of whom have “buy” ratings on the stock – and many may look at them nervously if the company fails to meet expectations this week.

However, analysts are buoyant because they believe Siemens has the room to raise its margin targets in its biggest businesses and that finally it might introduce a group profitability measure as well as cash flow targets.

Siemens executives decline to comment officially but acknowledge the pressure of the capital markets. “It is now time to deliver. [Heinrich] von Pierer [the departing chairman] has gone at a time of great figures but it is now time for Kleinfeld to carry on with what he is doing and earn shareholders’ trust,” one says.

Investors are hoping that, with Mr von Pierer gone, Mr Kleinfeld will be able to push through more radical change.

Mr Kleinfeld has said the core of the group is energy, medical technology and automation. Analysts expect all the associated divisions to see margin increases. One of the more striking ones is power generation, where margins recently have collapsed at Siemens as a result of a troublesome joint venture, with analysts highlighting price increases of 20-25 per cent for utilities.

But the hope is for much more than margin targets. On their own, they are helpful but tell far from the whole picture, particularly when a company such as Siemens is in a number of capital-intensive areas.

Instead, investors are keen to know how much it makes its assets sweat. Peter Reilly, analyst at Deutsche Bank, writes in a recent report that he expects a return in the low teens on capital employed targets – in line with the rest of the industry.

Mr Uglow is more optimistic. He thinks Siemens could achieve a return of 17-21 per cent this year but thinks the company will plump for a target of 15 per cent through the entire cycle as conditions are at their most favourable currently.

Both analysts expect some kind of cash flow target as well to supplement the only mid-term financial goal at present: making sales expand at twice the rateof global gross domestic product.

Analysts believe this focus owes a lot to Joe Kaeser, the new chief financial officer. While some at Siemens believe Mr Kaeser is just a cipher for Mr Kleinfeld, investors see him far more positively. “He actually answers your questions,” one leading investor says, sounding shocked.

Mr Uglow says: “Kaeser has been winning applause for talking about things like capital allocation and cash flow that weren’t really much discussed before.”

Some investors are, therefore, hoping that Siemens comes out with something more far-ranging than just margin targets on Thursday. Mr Reilly writes: “We think we may get more than just new targets as this is also the obvious time to launch a new, more detailed strategy.”

A London-based analyst says: “I think there is more structural change coming.”

Investors were heartened by a decision to float a minority stake in its VDO car parts unit, profitable but capital-consuming. Many are betting Siemens will sell VDO to a competitor such as Germany’s Continental.

The next target for investors is industrial services and solutions, a hotchpotch division that even insiders call “a conglomerate in a conglomerate”. Mr Reilly is hoping for clarity on that and the building services division.

But for some investors, perhaps the most extraordinary aspect is that – in spite of all the turmoil at the company, with one current and two former management board members as suspects in the twin scandals – Messrs Kleinfeld and Kaeser are even in a position to present a strong strategy.

“Given the pressure they have been under, I think that the results that the company has come up with and the attention to the markets has been commendable,” says Mr Uglow.

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