page 32 The Author Dr. Lorenz Näger is Chief Financial Officer of HeidelbergCement and also responsible for the Shared Service Center and Logistics.

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1 page 32 The Author is Chief Financial Officer of HeidelbergCement and also responsible for the Shared Service Center and Logistics.

2 page 33 The Impact of Public or Private Ownership on Corporate Strategy and Competition Family-owned businesses are a driver for Germany s success after the financial crisis In the current stage of the economic cycle, Germany is showing its most impressive economic growth in recent history. The unemployment rate is at a historic low and employment stands at a historic high. Exports in March 2011 reached the historical high of 93.6 billion EUR. The success story is based on a highly competitive manufacturing industry; it is not driven by the debtfinanced construction market or the financial industry, as we saw in some booming economies like China, the UK, or in the US up until 2007 /2008. One mosaic stone contributing to the outperformance of the German economy: the difference in the financial and entrepreneurial strategy between leveraged family-owned and capitalmarket oriented businesses and their impact on competition. It is worthwhile to have a closer look at the strategic approach of typical German family-run businesses and compare them from both a management and strategic perspective to the framework of a publicly-owned company. For decades, German-style, family-owned businesses enjoyed world-wide acknowledgement and respect. The strategic vision and the high level of competitiveness of these businesses are often seen as a blueprint for long-term entrepreneurial success and growth. In fact, entrepreneurial targets like growth, market position, and unlimited control of the operations very often rank high. Frequently, German entrepreneurs are driven more by market and technology than by financial policies. Financial targets are mainly focused on return on equity and are often subordinated to other entrepreneurial goals. Leveraged growth by market investments and also acquisitions to improve long-term market position are fully in line with this strategic approach. From the family investor s point of view, return on equity is high, even if the returns and synergies in the first years after an investment or an acquisition were just above the cost of debt rather than close to WACC. Decades of close relationship with key banks, so called Hausbanks spearheaded by the German Landesbanken (state banks), were supporting debt financing, and used to provide an abundance of liquidity for very low credit margins. This led to high financial leverage, where significant debt was allocated in operational business. Equity was held on the

3 page 34 private side and also served as a liquidity back-up for several entrepreneurial activities. High leverage and reluctant communications The high levels of debt in this entrepreneurial concept were not a problem for the last 50 years. In the fin ancial crisis, however, trust was lost even in decade-old business partners, a factor which turned out to be a major issue. The Merckle empire is such an example: in 2008, the Merckle group of companies which includes top names like ratiopharm, PHOENIX Pharmahandel, and HeidelbergCement AG experienced a severe crisis caused by liquidity after 40 years of accelerated growth. To restore liquidity and its financial profile, the family sold the generic drug producer, ratiopharm, and refinanced PHOENIX, a pharmaceutical distribution company with a turnover of 20 billion EUR. The family reduced shareholdings in HeidelbergCement from over 72 percent to close to 25 percent. HeidelbergCement, one of the world s leading heavy building material producers, moved from a family-owner style of business to a publicly listed company, joining the DAX in June Another typical feature of German family-owned businesses is a complex corporate and legal structure. This serves several purposes. First of all, it targets the reduction of the tax burden and tax payments. Aggressive tax planning is also a well established craft in Germany. German tax law is extremely complicated; using the various opportunities of tax-free income, transfer of carry forward losses, and avoiding consequences of CFC-rules require a significant number of nested operative and holding companies. A smart multi-level holding structure can also be used to leverage on several holding levels. German style family-owned businesses are quite shy with regard to public communication; disclosures are rather lukewarm and limited to the minimum legal requirements. Acting behind the scenes allows developing new businesses time before competition may react; in mergers and acquisitions, a strategic advantage can be reached quietly before the competition is alerted. And last but not least, management remuneration is not limited to the tight legal framework of public companies and does not have to be publicly disclosed. For management, this type of entrepreneurial environment provides interesting challenges: first of all, it is a great platform to grow and develop a business with a market-oriented strategy. Growing a business with a primary view on markets, customers, and technical solutions is attractive and rewarding. On the shareholder side, there is one single reference point. Far-reaching strategic decisions can be made quickly and efficiently. Typically, the family has run the business over decades, generations, or even centuries; it knows the market, understands the issues, and is able to decide quickly. On the flip side, a manager in a family business should like the detail but not the public appearance.

4 page 35 HeidelbergCement

5 page 36 Some very large family-owned companies insist that no pencil be bought without the owner s consent. Germany s Albrecht used to purchase products preferably from his own discounter, Aldi. Adolf Merckle was known for his notes to top management, asking not to send a letter and save postage and send it by fax or . Or to use less expensive, 2nd class train tickets given that today this class is quite comfortable and reaches its destination at the same time as the first class seats. Not each and every top manager appreciates this type of micro-management; both the manager and owner have to be on the same page to be successful in this environment. A market more to manage for public companies Capital market-oriented enterprises are run on a completely different base. In principle, they need to earn the WACC, at least long term, but, even over the short term, e.g., for each reporting date. Financial investors want to understand the business model in detail. For their investment strategy they need to understand the key drivers of growth and profitability. This requires clear and transparent structures as well as a clearly explained corporate strategy including expected growth rates, leverage levels, and rating targets. Non-compliance to these expectations easily results in a lack of confidence in the capital markets. Capital markets have efficient mechanisms to ensure discipline Capital markets have extremely efficient penalty mechanisms to ensure discipline. They can deny access to liquidity and cheap financing. This is what we currently see for so-called peripheral European countries, where capital markets penalize excessive spending and lack of discipline in public households by high too excessive risk premiums. Negative consequences from mistrust of capital markets for those depending upon it easily exceed possible advantages in any other area of activity, whether it is tax planning or investment activity. In a nutshell and compared to family-owned businesses, managing capital market-oriented companies means managing one complex, difficult, and demanding additional market. Moreover, this additional market develops strong impacts on operational business. It changes the hurdle rates for investments, very often is in public focus, and gives financial targets a significantly more prominent role in corporate decision making. Turning HeidelbergCement from family-owned to capital markets Like in a magnifier the different strategies of leveraged family-owned and capital market-oriented companies became visible when HeidelbergCement was (re-)floated on the capital markets in autumn This was a real management challenge. One recalls that based on its family owner-style financing, HeidelbergCement was close to breaching its fin ancial covenants, which were linked to some 12 billion EUR debt, including a bank debt of 9.5 million EUR in the middle of the financial crisis. After refinancing the bank debt in June 2010, the company floated shares of more than 4 billion EUR on the German stock exchange in September. Combined with a substantial capital increase, the Merckle family reduced its existing shareholdings from over 75 percent to just below 25 percent. This was followed in October 2010 by the biggest issue of sub-investment grade bonds ever of some 2.5 billion EUR. The company turned from family-owned to publicly-owned within a few months.

6 page 37 To make the company ready for the capital market, the strategy had to be defined and explicitly communicated, a big change to the past when the communication strategy had to explain to the market what has already been done. Defining and declaring a strategy also includes pro-actively communicating and selling the strategy to the capital markets, but also to the management and staff. At HeidelbergCement this change had a massive impact on the operational business. Cash generation gained a much more prominent role compared to profitability which was the prevailing target in the past. Working capital targets needed to be fixed and incorporated into the short-term bonus scheme. Hurdle rates for investments were raised significantly and quite a number of projects sank under the increased demands. Non-strategic participations were sold. An investor relations department was established and newly staffed. To understand the needs and expectations of investors, surveys were conducted and thoroughly analyzed. As a result, a targeted and communication style open to fi - nancial investors was established. The package of a clearcut strategy, tough implementation, and capital market communication led to solid share price development and an overwhelming majority of buy recommendations from analysts. The competition between strong family-owned businesses and companies in public ownership is a challenging environment. Capital market-oriented companies, which are successful in the long term in this competition, can very often build strong global market positions. The fierce competition in the home market with companies having different strategic and financial approaches is one of the drivers for the high competitiveness of German companies. Abroad they have best preconditions to be successful where a larger number of companies are publicly listed and the competitive landscape is more homogenous. As in other fields, it may take years to build a reliable relationship to capital markets. If, over time, management succeeds in proving that performance and communications expectations can be fulfilled the picture may change. The resources of an open capital market offer considerable room for development.