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Organization and Corporate Management

 

The Continental Corporation comprises Continental AG and 429 companies around the world, including minority holdings.

Organizational structure
The Continental Corporation is an international automotive supplier that comprises Continental AG, a stock corporation under German law, as the parent company and 429 companies around the world, including minority holdings.

The Continental Corporation is organized into six divisions with 30 business units. The divisions and business units are based upon classification according to products and product groups and certain regions. The divisions and business units bear full responsibility for their business, including their results. This organizational structure allows a high degree of flexibility and speedy coordination of operating business across countries and companies, which therefore allows a fast reaction time to technological changes and market developments and an optimal use of resources.

Continental AG's Executive Board has overall responsibility for corporate management. Each of the six divisions is represented on the Executive Board with a separate Executive Board member, while the central units are represented by the Chairman of the Executive Board, the CFO and the Director of Labor Relations. This ensures that strategic management and operational tasks are coordinated. The central units assume cross-divisional functions necessary for corporate management, including Finance and Controlling, Law and Compliance, and Quality Management in particular.

This organizational structure ensures that we can react flexibly and quickly to market conditions and the requirements of our global customers while also optimizing the overall success of the Continental Corporation.

Value management
Continental's financial objectives center on sustainably increasing the enterprise value of each business unit and therefore also the corporation as a whole. The aim is to create added value, meaning that we want to earn a premium on our cost of capital on a permanent basis. We use the following key figures to assess this objective:

  • the percentage return on capital employed (ROCE)

    Continental states its return on capital employed in its annual reports in terms of EBIT as a percentage of average operating assets. The average operating assets consist of the average of all operating assets at the respective quarterly balance sheet dates of the fiscal year.
  • the CVC (Continental Value Contribution) as the absolute amount of value achieved

    The CVC represents the absolute amount of additional value created, and the Delta CVC represents the change in absolute value creation over the prior year. The CVC is measured by subtracting the weighted average cost of capital (WACC) from the ROCE and multiplying this by the average operating assets for the fiscal year. The weighted average cost of capital calculated for the Continental Corporation corresponds to the required minimum return. The cost of capital is calculated as the weighted average ratio of the cost of equity and borrowing costs. Continental's cost of equity is based on the return from a risk-free alternative investment plus a market risk premium, taking into account Continental's specific risk. The borrowing costs are calculated based on the weighted borrowed capital expense ratio. Since the economic environment is always changing, Continental regularly checks its cost of capital to determine if it is up to date, adjusting it as required.

  • and the change in absolute value over the previous year

This change in the absolute contribution measured by Delta CVC allows us to monitor the extent to which management units generate value-creating growth or resources must be employed more efficiently.

Development of ROCE (in € millions)

Development of ROCE (in € millions)

Financing strategy
At Continental, the central function Finance & Treasury coordinates the preparation of the necessary financial framework in order to both finance corporate growth and secure the long-term existence of the company. The company's annual investment needs are currently between 5% and 6% of sales. Care is taken to ensure a balanced mix of equity capital and borrowed capital to continually improve the corporation's cost of capital in the prevailing environment. We aim to stabilize the ratio of equity to net financial debt (gearing ratio) within a corridor of 70% to 100%. Deviations from this corridor may be possible for extraordinary financing occasions or under particular market conditions. We are striving for an equity ratio of more than 30%. Our financial debt is to be financed in a balanced mix between bank liabilities and other financing sources on the capital market, whereby we intend to use a wide range of financing instruments for short-term debt in particular. Depending on the market conditions, the corporation strives for liquidity between €0.9 billion and €1.5 billion. The liquidity requirements are particularly dependent on the seasonal nature of individual business units and are also influenced by corporate growth.

As of December 31, 2010, the gearing ratio was 118.0%, explained primarily by the acquisition of Siemens VDO's activities in July 2007 for €11.3 billion as well as the consequences of the financial and economic crisis of 2008 and 2009. It is the aim of the Executive Board to achieve the target corridor by 2012 at the latest and produce key financial figures that support a return to investment grade status. This goal shall be achieved primarily by repaying financial obligations from free cash flow, as well as by increasing the equity from retained earnings. As of December 31, 2010, the equity ratio amounted to 25.4%, and was thus lower than our target.

Gross debt amounted to €9.0 billion as of December 31, 2010. Even after the implementation of a large portion of the refinancing plan begun in 2009, the largest financing instrument remains the VDO loan with a committed volume of €6.48 billion (as of the end of 2010). It consists of tranche C for a nominal amount of €3.98 billion and a revolving line of credit for €2.5 billion (tranche D), with €0.3 billion of the latter having been drawn down as of December 31, 2010. Both tranches have a term until August 2012. The last step of the refinancing plan initiated at the end of 2009 consists of renegotiating parts of or the entire VDO loan in order to further improve the maturity profile of the liabilities.

Gross debt at December 31, 2010 (in € billions)

Gross debt at December 31, 2010 (in € billions)

The discussions with the banking syndicate required for this have already begun and are to be concluded in the first half of 2011.

Around one-third of the gross debt is financed via the capital market in the form of bonds with due dates between July 2015 and September 2018. The interest coupons vary, depending on the term of the bond, between 6.5% and 8.5% Repayment amounts on maturity are €625 million each in 2016 and 2018, €750 million in 2015 and €1.0 billion in 2017. All four bonds grant the issuer the right to early repayment under certain conditions. In addition, there are bilateral lines of credit with various banks in the amount of €1.0 billion as of December 31, 2010, as well as a promissory note loan of €110 million and an investment loan from the European Investment Bank of €300 million. In addition to finance leases, Continental's other corporate financing instruments currently include sales of receivables, and commercial paper programs.

Maturity profile
Continental always strives for a balanced maturity profile of its liabilities to be able to repay amounts falling due each year with free cash flow. Significant progress was made here in the past fiscal year, thanks in particular to the bond issues totaling €3.0 billion. In 2011, the promissory note loan of €110 million will become due and payable, among others. However, around half of the gross financial debt will become due in August 2012. Maturities in the years after that are characterized primarily by the bond maturities which will amount to a maximum of €1.0 billion in one respective calendar year. Continental aims to extend the maturity of the existing VDO loan substantially in the ongoing renegotiations.

Gross debt maturity profile (in € millions)

Gross debt maturity profile (in € millions)

Rating goal
Continental is currently assessed by several rating agencies. Moody's evaluation is B1 Outlook stable, and Standard & Poor's categorizes Continental as B Outlook stable. Continental's goal is to improve its rating back to the higher credit category, which is characterized by low default rates and referred to as the Investment Grade category, in the medium term.

The target minimum rating is BBB and Baa2. By the end of fiscal year 2012 at the latest, the decisive financial ratios of net indebtedness in relation to EBITDA (leverage ratio), net indebtedness in relation to equity (gearing ratio) and the ratio of operating cash flow to net indebtedness (FFO/net indebtedness) as defined by the rating agencies are expected to reach a level characteristic of the investment grade category.

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Continental Value Contribution (CVC). The CVC represents the absolute amount of additional value created, and the Delta CVC represents the change in absolute value creation over the prior year. This change in the absolute contribution measured by Delta CVC allows us to monitor the extent to which management units generate value-creating growth or resources must be employed more efficiently. The CVC is measured by subtracting the weighted average cost of capital (WACC) from the ROCE and multiplying this by the average operating assets for the fiscal year. The weighted average cost of capital calculated for the Continental Corporation corresponds to the required minimum return. The cost of capital is calculated as the weighted average ratio of the cost of equity and borrowing costs.

Currency swap. Swap of principal payable or receivable in one currency into similar terms in another currency. Often used when issuing loans denominated in a currency other than that of the lender.

Defined Benefit Obligation (DBO). DBO is defined as the present value of all vested and non-vested benefits calculated on the basis of estimated salary levels at retirement. The only actuarial method that may be used to calculate the DBO is the projected unit credit method. DBO corresponds to PBO (projected benefit obligation).

Derivative financial instruments. Transactions used to manage interest rate and/or currency risks.

Dividend payout ratio. The dividend payout ratio is the ratio between the dividend for the fiscal year and the earnings per share.

EBIT. Earnings Before Interest and Taxes. EBIT represents the results of operations. Since 2002, when the amortization of goodwill was discontinued, EBITDA has been equal to EBIT.

EBITA. EBIT before scheduled goodwill amortization.

EBITDA. Earnings before interest, taxes, depreciation and amortization.

Finance lease. Under a finance lease, the lessor transfers the investment risk to the lessee. This means that the lessor bears only the credit risk and any agreed services. The lessee is the beneficial owner of the leased asset. Finance leases are characterized by a fixed basic term during which the lease may not be terminated by the lessee.

Gearing ratio. The gearing ratio represents the net indebtedness divided by total equity, expressed as a percentage.

Hedging. Securing a transaction against risks, such as fluctuations in exchange rates, by entering into an offsetting hedge transaction, typically in the form of a forward contract.

IAS. International Accounting Standards.

IASB. International Accounting Standards Board. The authority that defines the International Financial Reporting Standards.

IFRIC. International Financial Reporting Interpretations Committee. Committee that reviews and determines appropriate treatment of accounting issues within the context of IFRS and IAS.

IFRS. International Financial Reporting Standards. The accounting standards issued by the IASB.

Interest rate cap. An interest rate cap sets an upper limit for a variable interest rate in relation to a notional debt amount. To the extent that the variable interest due on the underlying debt exceeds the cap amount, the holder of the cap receives income as compensation in the amount of the difference to the cap. An up-front premium is paid as consideration for the cap.

Interest rate swap. An interest rate swap is the exchange of interest payments between two parties. For example, this allows variable interest to be exchanged for fixed interest, or vice versa.

Net indebtedness. The net amount of interest-bearing liabilities as recognized in the balance sheet, cash and cash equivalents, the positive fair values of the derivative financial instruments as well as other interest-bearing investments.

Operating assets. Operating assets are the assets less liabilities as reported in the balance sheet, without recognizing the net indebtedness, discounted trade bills, deferred tax assets, income tax receivable and payable, as well as other financial assets and debts.

Operating lease. A form of lease that is largely similar to rental. Leased assets are recognized in the lessor's balance sheet and capitalized.

PPA. Purchase Price Allocation. PPA is the process of breaking down the purchase price and assigning the values to the identified assets, liabilities, and contingent liabilities following a business combination. Subsequent adjustments to the opening balance sheet – resulting from differences between the preliminary and final fair values at the date of initial consolidation – are recognized as "PPA adjustments".

Rating. Standardized indicator for the international finance markets that assesses and classifies the creditworthiness of a debtor. The classification is the result of an economic analysis of the debtor by specialist rating companies.

ROCE. Return On Capital Employed. We define ROCE as the ratio of EBIT to average operating assets for the fiscal year.

SIC. Standing Interpretations Committee (predecessor to the IFRIC).

US GAAP. United States Generally Accepted Accounting Principles. These principles are subdivided into binding and guiding principles.

Weighted Average Cost of Capital (WACC). The WACC represents the weighted average cost of the required return on equity and net interest-bearing liabilities.