Management Report
4.4 Value Management
Cash value added-based system
One of the prime objectives of the Bayer Group is to sustainably increase enterprise value. We use a Group-wide value management system to plan, control and monitor our businesses. An important value-based indicator is the cash value added (CVA), which shows the degree to which the cash flows needed to cover the costs of equity and debt and of reproducing depletable assets have been generated. If the CVA is positive, the respective company or business entity has exceeded the minimum requirements. If it is negative, the anticipated capital and asset reproduction costs have not been earned. The CVA is an indicator for a single reporting period. For a year-on-year comparison we therefore use our second central steering parameter for value management, the delta CVA, which is the difference between the CVAs of two consecutive periods. A positive delta CVA denotes an increase in the company’s value.
The value-based indicators aid management’s decision-making, especially regarding strategic portfolio optimization and the allocation of resources for acquisitions and capital expenditures. The focus at the operational level is on the key drivers of enterprise value: growth (sales), cost efficiency (EBITDA) and capital efficiency (working capital, capital expenditures), since these directly affect value creation.
Calculating the cost of capital
Bayer calculates the cost of capital according to the debt/equity ratio at the beginning of the year using the weighted average cost of capital (WACC) formula. The cost of equity capital is the return expected by stockholders, computed from capital market information. The cost of debt used in calculating WACC is based on the terms for ten-year Eurobonds issued by industrial companies with an “A-”rating.
To take into account the different risk and return profiles of our principal businesses, we calculate individual capital cost factors after income taxes for each of our subgroups. In 2011 these were unchanged from 2010 at 8.1% for HealthCare, 7.5% for CropScience and 7.1% for MaterialScience. The minimum return required for the Group in 2011, as in 2010, was 7.8%.
Gross cash flow, cash value added and cash flow return on investment as performance yardsticks
The gross cash flow as published in our statement of cash flows is the measure of our internal financing capability. Bayer has chosen this parameter because it is relatively free of accounting influences and is therefore a more meaningful performance indicator.
Taking into account the costs of capital and of reproducing depletable assets, we determine the gross cash flow hurdle. If the gross cash flow hurdle is equaled or exceeded, the CVA is positive and thus the required return on equity and debt plus the cost of asset reproduction has been earned.
The profitability of the Group and of its individual business entities is measured by the cash flow return on investment (CFROI). This is the ratio of the gross cash flow to the capital invested, which is derived from the statement of financial position and basically comprises the property, plant and equipment and intangible assets required for operations – stated at cost of acquisition or construction – plus working capital, less interest-free liabilities (such as current provisions). To reduce fluctuations in the capital invested, the CFROI is computed on the basis of the average figure for the respective year.
The CFROI hurdle for 2011 was 10.0% (2010: 10.0%), while the corresponding gross cash flow hurdle was €4,339 million (2010: 4,384 million).
Actual gross cash flow came in at €5,172 million, exceeding the hurdle by 19.2%. Thus in 2011 we earned our entire capital and asset reproduction costs, and the positive CVA of €833 million shows that Bayer exceeded the minimum return and reproduction requirements and earned a premium on the capital invested. Since the CVA in 2010 was €387 million, the Bayer Group therefore posted a positive delta CVA of €446 million in 2011, showing that it created considerably more value than in the previous year. The CFROI for 2011 amounted to 11.9% (2010: 10.9%).
HealthCare and CropScience exceeded their target returns including asset reproduction, while MaterialScience was €94 million below the gross cash flow hurdle. The CFROI for HealthCare was 14.3% (2010: 12.8%). CropScience achieved a CFROI of 10.3% (2010: 5.9%). MaterialScience was below the prior year with a CFROI of 9.2% (2010: 11.0%).
| Value Management Indicators by Subgroup | [Table 3.16] |
|---|
| | HealthCare | CropScience | MaterialScience | Bayer Group |
| | 2010 | 2011 | 2010 | 2011 | 2010 | 2011 | 2010 | 2011 |
| | € million | € million | € million | € million | € million | € million | € million | € million |
| Gross cash flow* (GCF) | 2,948 | 3,254 | 546 | 900 | 1,058 | 939 | 4,771 | 5,172 |
Gross cash flow hurdle
(GCF hurdle) |
2,291 |
2,205 |
881 |
857 |
973 |
1,033 |
4,384 |
4,339 |
Cash value added
(CVA) |
657 |
1,049 |
(335) |
43 |
85 |
(94) |
387 |
833 |
Delta cash value added
(delta CVA) |
(238) |
392 |
(556) |
378 |
726 |
(179) |
9 |
446 |
Cash flow return on
investment (CFROI) |
12.8% |
14.3% |
5.9% |
10.3% |
11.0% |
9.2% |
10.9% |
11.9% |
| CFROI hurdle | 9.9% | 9.7% | 9.4% | 9.5% | 10.6% | 10.4% | 10.0% | 10.0% |
Average capital
invested |
23,022 |
22,757 |
9,189 |
8,772 |
9,589 |
10,157 |
43,622 |
43,348 |
| * For definition see Chapter 4.5 “Liquidity and Capital Expenditures of the Bayer Group.” |