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Executives

Mariel von Drathen – Head, IR

Peter Löscher – President and CEO

Josef Käser – Head, Corporate Finance and Controlling

Analysts

Ben Uglow – Morgan Stanley

Andreas Willi – JP Morgan

Simon Smith – Credit Suisse

Peter Reilly – Deutsche Bank

Martin Prozesky – Sanford Bernstein

Olivier Esnou – Exane BNP Paribas

Gaël De Bray – Société Générale

Siemens AG (SI) F1Q 2012 Earnings Call January 24, 2012 2:30 AM ET

Operator

Good day, ladies and gentlemen, and welcome to the Siemens 2012 First Quarter Conference Call. As a reminder, this conference is being recorded. Before we begin, I would like to draw your attention to the Safe Harbor statement on page two of Siemens’ presentation. This conference call may include forward-looking statements. These statements are based on the company’s current expectations and certain assumptions and are, therefore, subject to certain risks and uncertainties.

At this time, I would like to turn the call over to your host today, Mrs. Mariel von Drathen, Head of Investor Relations. Please go ahead, madam.

Mariel von Drathen

Thank you very much. Good morning, ladies and gentlemen, and welcome to our First Quarter Fiscal Year 2012 Conference Call. The earnings release, the FLASHLIGHT and all other documents were published this morning at 7 AM. You can download all the files from our website. This morning’s presentation is also online and this morning’s call is being webcasted via the IR website.

Siemens’ President and CEO, Peter Löscher, and Siemens’ Chief Financial Officer, Joe Käser, are here this morning to review Q1 numbers with you. After the presentation, unfortunately, Peter will have to leave for the Annual Shareholder Meeting. We will then have time for Q&A with Joe.

And with that, I would like to hand over to you, Peter.

Peter Löscher

Thank you, Mariel. Welcome and good morning to everyone. Thank you for joining us to discuss the first quarter results of fiscal 2012, and this also a premier for the new four sector structure. In a nutshell, our start into the new fiscal year was somewhat mixed in an uncertain macroeconomic environment. Uncertainties of the ongoing debt crisis have left a mark on the real economy, particularly in Europe. Public budgets are under pressure in many countries due to austerity measures and concerns about the availability of financing limit, in some cases, investments. After strong growth rates in 2011, the economists predict softening growth rates of the global economy in the first half of 2012 before they see some improvement towards the second half of 2012 and into 2013.

In this uncertain environment, our order intake decreased moderately by 4%, mainly due to a significantly lower number of large orders in Energy and Infrastructure & Cities. Our short-cycle businesses held up well in a robust market where growth rates further normalized. We expect an uptick in industrial demand towards the second half of this year. Moderate revenue growth of 3% was driven by a continued backlog conversion in Energy and above average growth in emerging markets, which account now for 32% of total revenue.

Profitability was substantially weaker due to project delays in some businesses, such as power transmission and rail systems, and these led to significant charges, which I will touch upon later. In addition, we increased as previously indicated, functional costs in sales and marketing as well as research and development associated with growth opportunities. Despite these headwinds, we achieved a very solid return on capital employed of 19%, well within the targeted range.

From a strategic perspective, we made in the first quarter significant progress in further developing partnerships to better address important growth markets in the emerging markets. First, we will adequately access the large wind market in China through joint ventures with our long-standing partner Shanghai Electric, and second, we will extend our global gas turbine manufacturing network with a set-up of a majority joint venture with Power Machines in Russia.

Let me briefly comment on the key figures of the first quarter. Our book-to-bill of 1.11 was clearly in line with our expectations, despite moderate order decrease. Combined with favorable currency effects of EUR2 billion, this lifted our backlog to a new record-high of EUR102 billion. As indicated, profit from total sectors decreased significantly, by 23%, and this led also to a 27% decline in income from continuing operations.

Basic earnings per share went down from EUR2.07 to EUR1.53. After a very strong cash flow performance in the fourth quarter of fiscal 2011, we saw a partial reversal in net working capital and some spillover effects, such as the payout related to particle therapy of around EUR300 million. These effects led to a negative free cash flow of EUR1.1 billion.

Let’s have a look at some key developments in each of the sectors. The first sector, Energy. Orders in Energy declined substantially, by 11%, mainly due to a much lower number of large solution projects in Fossil and Transmission. Orders in Fossil were driven by product business, in particular, gas turbines, and had to compare with very strong solution orders from the prior year. The overall decline was only partially offset by a jump in orders in Renewable Energy due to a series of onshore wind orders in the Americas. The book-to-bill ratio was again at a very healthy 1.16.

First quarter revenue rose by 8% on the conversion of Energy’s strong order backlog, with rapid growth in Asia, Australia and strong growth of 16% in the Oil & Gas business. However, profitability in Energy delivered a very mixed picture. Fossil continued its excellent project execution in the Solution business and also achieved a higher earnings contribution from the Service business. Profitability was also supported by a net positive effect of EUR36 million from the divestment gain of the sale of Power Machines’ stake, more than offsetting further project charges from the Olkiluoto project.

On the downside, Renewable Energy posted a loss of EUR48 million. The main reasons are higher expenses for research and development, marketing and selling associated with the expansion in a highly competitive wind market. Furthermore, we have seen a less favorable revenue mix and increased pricing pressure, which led, all in all, to a loss in the Wind business. We expect the Wind business to continuously grow revenue and return to profitability in the coming quarters.

Power transmission reported a significant loss of EUR145 million in Q1. The division was also impacted by a less favorable revenue mix, which weighted on the profitability. But most importantly, a major effect that was EUR203 million in project charges mainly related to grid connections to the offshore wind farms in Germany. The reasons are project delays resulting from a complex regulatory environment and cost increases for the marine platforms. We are in intense discussions with the involved parties due to resolve the challenges, but expect continuing challenges in coming quarters.

Let’s move on to Healthcare, which provided this resilient business model with a 3% order growth and healthy underlining profitability. The business environment, especially in Europe, remains challenging, while the U.S. is more stable and emerging markets show robust growth. The main revenue growth driver was, again, China, with a strong double-digit increase. Healthcare is well on track to execute the Agenda 2013, our program to increase competitiveness and accelerate innovation. We recorded charges of EUR72 million, in part of – for refocusing the Radiation Oncology business and improving the cost position of Diagnostics. We expect further charges for the program in coming quarters, albeit somewhat lower than the originally expected EUR300 million.

Our innovation pipeline is well underway and customer response during the RSNA was excellent on our new product launches, such as the SOMATOM Perspective, and this is a CT. It’s fully developed and manufactured in China and optimized for total cost of ownership.

Diagnostics showed that some signs of improvement with sales growth of close to 2% and an uptick in underlying margin due to improvements in the cost position and the more favorable product mix. You can discuss more details with the Healthcare Management team during the upcoming Capital Market Day in February.

Next, I want to highlight key developments in the newly shaped sector, Industry, where the lower margin Industry Solution division was dissolved and its businesses divided mainly between IA and DT, while the Metals business is now sectorless. This new setup led to a certain dilution of the IA and DT margins. Our short cycle businesses held up well, despite ongoing macroeconomic uncertainties. Industry Automation and Drive Technologies continue to increase revenue year-over-year in a robust business environment, especially the export-driven industry in Germany showed decent demand. Revenue in the sector was up 5% year-over-year, while orders went down slightly by 2%, due to a significant decrease of large internal orders for Drive Technologies.

Profitability in Industry Automation declined 240 basis points, due to a less favorable business mix and increased selling expenses and footprint expansion to leverage growth opportunities in emerging markets. For example, IA will set up a new electronic factory in Chengdu by 2013 to meet the rapidly growing demand in Asia.

Drive Technologies’ margin of 9% disappointed, despite strong motion control profitability. Main reasons are higher OpEx on relatively low volume and increased price pressure in the wind energy-related Drive business. We expect a return to double-digit profitability in the coming quarters.

And finally, I want to highlight key developments in the new sector, Infrastructure & Cities. Order volume for the sector declined by 5%, due to fewer large rolling stock orders. For comparison, we had the large Eurostar order in Q1 of fiscal 2011. Nevertheless, Rail Systems was again very successful in Russia and won the second order for eight high-speed trains for more than EUR600 million. Profit in the Transportation & Logistics division was held back by charges of EUR69 million related to the delays of the delivery of Velaro D to Deutsche Bahn, which triggered by delays of one of our suppliers.

The Power Grid Solutions & Products business saw a temporarily weakening profitability in low and medium voltage, due to a less favorable business mix. In the Smart Grid division, we will continue to invest to grow our Smart Grid portfolio and footprint. Building Technologies achieved a solid profit margin of 6.2% on 3% revenue growth. Markets for energy efficiency showed decent growth rates.

Below the sector line, I would like to highlight the excellent results from SFS, generating EUR199 million in profit, also benefiting from a EUR78 million gain on the sale of a stake in the Bangalore Airport. As indicated, SFS took advantage of a favorable environment to grow the business and support our operations.

Before moving to our questions, let me close with a brief remark on our outlook. Based on our assumption of a global uptick in demand in the second half of 2012, we are on track to achieve our targets for a book-to-bill well above 1 and moderate revenue growth. However, after a difficult first quarter, it has certainly becoming challenging to achieve our full-year guidance of income from continuing operations of around EUR6 billion, and it’s now all about operational execution and the margin for errors has narrowed.

With that, Joe will be happy to take your questions, and I, unfortunately, as Mariel has indicated, have to leave for the General Assembly. (Inaudible)

Mariel von Drathen

Thank you very much, Peter. We will open now for questions.

Question-and-Answer Session

Operator

Thank you. Ladies and gentlemen, we will start today’s question-and-answer session. (Operator Instructions) And our first question today comes from Colin Gibson of HSBC.

And we’ll take our next question from Ben Uglow of Morgan Stanley. Please go ahead.

Ben Uglow – Morgan Stanley

Hi. Morning. A couple of questions. First of all, could you just give us more color on the Transmission losses, the one-offs, and just give us a little bit more background? As I’ve read about it, I’ve seen what RWE has said about it, but I’d like to hear what is the basis for the problem, how is Siemens handling the problem and do you feel that with the charge that you’ve taken that the issues are completely contained? Can we assume that that will not reoccur?

So, that was issue number one. Issue number two, I’m sure other people will delve in to this, but where the surprise for me in these results lies is in terms of some of the underlying margins. When I look across several different divisions, for example, Renewables, Transmission, Oil & Gas, Drives, Power Grid, there seem to be multiple effects in there and – but the margins being a little bit light. What I’d like to hear from you, if you can, is talking about pricing and pricing trends versus investment. How much of this, for example, is due to a deterioration in pricing just in Transmission and Renewables, and how much of it is due to ramping up of R&D and investment costs? Thanks.

Josef Käser

Hi, Ben. Good morning, everyone. Let me start with the obvious topic here in Q1, which is the Transmission wind connection charges, which, as you know, have been booked at EUR203 million. I mean, over the – it doesn’t do any good to anyone to now start finger pointing who didn’t do the job right in terms of specification and execution and who was involved in the lack of decision making on what the spec would be and the whole nine yards. I mean, we are focusing now on working together, cooperating with the different stakeholders in that matter. We still do continue to believe that this is a unique opportunity for Germany to shape the change in the energy mix going forward, and that’s obviously the most attractive topic here on a general note.

Now, very specific, when those projects have been awarded appropriately, we’re working together with our customers, also with the authorities, about what will exactly that platform look like. Will it be more classified as a ship or will it be more classified under the legislation as an oil platform? And that’s been basically the first major hiccup here that this discussion is still ongoing. And there are massive material ramifications to that. As you know, we have been installing quite a number of those operations already in the U.K., or in the greater U.K. area, and that has actually worked out very well.

So, in general, we do believe this has potential to be a good business, but we still now need to group together with the constituencies on finding a solution. As it stands now, we have made up our revision of the plans and those, obviously, come to higher costs which eventually lead to those charges. That is as much as we can say at this time. As I said, we are diligently working with the constituencies here, there are many, to find a meaningful solution because this is what everyone is after.

So far, we are at EUR203 million, based on our assumptions, and we are confident that this will be doable, but I also have to caution the community that this is just now what we assume is doable. There are no very hard facts, which could actually secure and guarantee that this will be the final version. But, as you know, we book what we see and we book what is overly likely.

Ben Uglow – Morgan Stanley

I’m sorry to run one, and I know obviously you don’t want to get into a protracted debate on this, but is this primarily an issue with the specification of the platform or is it to do with delays in installation? Can you elaborate on that?

Josef Käser

Well, I mean, that’s – look, I mean, the lack of specification will be a root cause for delays. So, there is a causation here and that’s why there is, I mean, in a way some uncertainty about what that causation will do if the solution on the specification will drag on for a certain period of time. So if the spec is not complete, people can’t start working, if people can’t start working, the project lasts longer and so on and so forth.

So the – I mean, the math is relatively easy, but however, the solution is what actually comes and this is what we are now focusing on together with our customers, with the regulators and one or the other supplier also. Because as, obviously, as you know, a majority of the total contract values comes from third-party suppliers also, so that’s why this is important to be very close to it and make sure that we have an agreement within all the constituencies who have all the same motivation to get the matter done.

Now, on the underlying margins, I mean, obviously, there has been some pricing, but that pricing impact, which you now see in the P&L, has been discussed already a year ago, when we talked about the order intake quality of certain segments. And the ones who have been following us closer know that about a year ago already we have been talking about some adverse pricing environment on high-voltage substations that we mentioned that price decline for the order intake at that time was up to 20%. We also said that a number of Transformer segments are seeing increased adverse pricing environments, and that what we kind of said a year ago is now materializing slowly also in the P&L as it comes to gross margin.

On the Renewables side, similar matters, onshore has always been quite a challenge as compared to offshore. And that what is what you now see in the Wind, that we had, first of all, somewhat light revenue number, it was close to EUR900 million. That’s actually too light in order to make some profit and cover the fixed cost structure. And on top of that, we saw relatively more onshore revenues as offshore, reason being that we needed to rush finishing some regional wind parks, mostly also in the U.S., due to the exploration of some benefits which have been given by the government.

We do expect Q2 to normalize in both product mix, offshore/onshore, as well as revenues. And so, we should see a noticeably increased top line in revenues in Q2 and that, obviously, would also then do its benefits to the bottom line. But, the ongoing issue on onshore excess capacity consolidation and subsequently pricing remains in place and I would not see a close tied in to that.

But, in general, on margins, because you obviously have noticed that in general we see some light margins, that, of course, average fallout of our somewhat aggressively pursued growth pattern where we have been increasing OpEx for the second year in a row. And as Peter mentioned earlier, it is the time now to also look at softening at least the increase of the planned OpEx spending going forward. I guess that’s as much as I would think now was on the margins.

Ben Uglow – Morgan Stanley

Okay, great. Thank you, Joe.

Josef Käser

Sure.

Mariel von Drathen

We’ll take the next question.

Operator

We’ll take our next question from Andreas Willi of JP Morgan. Please go ahead, your line is now open.

Andreas Willi – JP Morgan

Good morning, Joe and Mariel. My first question is on a comment Joe made early this morning, at least it came across on Bloomberg, that business clearly got better in recent weeks. Maybe you could elaborate a bit on that in terms of regions or businesses or what do you specifically have observed. And whether, given that your short cycle businesses have slowed a bit but they’re still kind of growing, are we already talking about a recovery before we have seen actually much of a slowdown? Maybe that’s really already it for what is a European recession.

The second question I have is on the below the line items where you gave quite specific guidance in November, but Q1 showed upside to that guidance on a number of items, particularly in underlying corporate expense which seems around zero. Maybe you could give us some explanation for the unusually low level of spending there and whether the full-year guidance we should still use that or we should reduce the run rate or adjust the run rate a bit for the better trends we’ve seen in this quarter? Thank you.

Josef Käser

Yeah. Hi, Andreas. To clarify what was obviously translated during the press conference, we really didn’t say that the business got better. What I said was that the sentiment got better and people are looking more comfortable in what to expect for the next 12 months to 18 months. And you’ve seen that in various data points, also Germany with the E4 Index or the ZEW and the likes. So, and that’s actually – this improvement of business sentiment among the capital goods community is actually what kind of triggers us to assume that the second half of 2012 could actually see some recovery of the current situation.

And some of you who have been attending our Shanghai Investors Conference end of June might remember that I said that there will be definitely, sooner or later, a fallout of all this uncertainty on the European debt crisis and the likes on the behavior and investment behavior and sentiment of our customers. And here we go. So we’ve seen that nervousness, that uncertainty. People have been somewhat standing on the sideline, and now since there had been some perceived control at least over the majority of the debt crisis in Europe even though it hasn’t been solved, and you can’t solve something which took 20 years to develop in 20 days or weeks.

But that sentiment has improved and we do believe that the investment behavior, especially in the so-called German Mittelstand, but also in China for the second half, could actually brighten and we could see some back-end loaded uptick in the short-cycle environment. That’s our current assumption, what we believe is possible. So, that’s as much as a clarification.

And the European recession, I mean, Europe is on average Europe, but obviously, if you look at the spread, there are still somewhat strong economies and others which are obviously weak, structurally weak, and continue to be weak. So therefore, Europe on average is not much to count on for the time being. But obviously, Germany with its industrial power, with its raising consumer confidence should actually spend more in order to push GDP.

And if you look, for example, at the data on construction and the likes here in Germany, it’s been up about 25%, so there should actually be also some fallout on the sentiment here. So that’s the assumption going forward. Nevertheless, Peter and I are very clear here, and our colleagues on the board support that, that we should take a somewhat more distant approach to increasing the OpEx in the short term any further.

So on the below the line, that’s an important point and I’m glad to clarify that. When we laid out our assumptions in November about what to expect and how we plan our 2012, we said on average, you should expect around about EUR200 million on corporate. Seasonally, what you usually see is that Q4 is very high and Q1 is somewhat light. So you’re actually absolutely right. The below the line matters, with the exception of SRE and SFS, have actually been all artificially favorable. And that’s also one of the matters, obviously, which we have in mind going forward.

(Inaudible) strong quarter in their fiscal Q4, which is somewhat typical to them, so that should not be overestimated, there hasn’t been any, at least with any material charges on any segment we expect them to materialize in Q2 now. The company has not yet finally made up its mind because there’s still a negotiation with the workers and representatives on what exactly the deal structure looks in detail, but our current assumption is that Q2 will then be the quarter to see the majority of the restructuring charges coming into equity investments. So, that is something which we need to consider.

And I mean, obviously, those depreciation of those assets which we need to manage on the nuclear side, this is always dependent on what the interest rate, the discount rate will look like, so that could be very volatile. But in general, I would actually recommend that you keep the assumptions we’ve made in November and that should actually do it for the year.

Mariel von Drathen

Next question?

Andreas Willi – JP Morgan

Thank you very much.

Josef Käser

Sure.

Operator

We’ll take our next question today from Simon Smith of Credit Suisse. Please go ahead, your line is now open.

Simon Smith – Credit Suisse

Oh, hi. Thank you. Thank you for taking my question. Yeah, I had two questions, really. The first one was on the Transmission business. I think you’ve given a very clear detail as to the impact you’re seeing from issues with a number of contracts. But I just wanted to – even if we take out the charges, the underlying margins of the business do seem to be very low relative to what we would have expected and what competitors are doing. Is this the normal state of contracts that you have or is there an element of contracts that you’re struggling with having a zero profitability? I mean, is there a way of maybe adjusting even the underlying for what may be some of the impacts of problem contracts, just to give us a clearer picture?

My second question was more on acquisitions. I think earlier in the month some comments or some feedback had seemed to imply that you are now taking a more cautious view on acquisitions, but I think there are some statements today suggesting that you’re again looking at bolt-on acquisitions. Just wondered what you thought about the current environment for M&A and maybe where your main focus of interest was?

Josef Käser

Yeah, thanks, Simon. On Transmission, I mean, obviously, this is an area of disappointment, not just in terms of the short-term challenges on getting our joint act together on the German renewable energy agenda, but, obviously, also those adverse matters we had discussed a year ago on order intake on transformers and high-voltage substations have not really gotten any better and we see in major parts see the fallout of those order intakes now in the P&L.

And as you likely remember, I’ve been continuously consistently been somewhat cautious about Transmission, above and beyond this Wind matter, because we do see continued pricing pressure coming through both new aggressive entrants from China and Korea and the like, but also due to the fact that the capacity utilization, especially on transformers, has not exactly been improving. So that will accompany us for a while. I would not feel comfortable enough to already give you a green light for Q2, maybe Q3. So, there’s got to be some realignment of resources here in order to better adapt to the global situation of that segment.

The second topic was about M&A. I mean, look, we always said that we look into areas where we can create value. If the value can be created by M&A, that obviously would be an opportunity. We have always, however, also made clear that in the short term we focus more on organic growth. And the reason for that has also – as you have seen in the OpEx spending, which we increased for the second year in a row by up more than EUR1 billion. So, the focus clearly was organic.

Obviously, the multiples have come down in the sector. On the other hand, to me, a very important prerequisite on making broader acquisitions in more or less more divisions across sectors, has been that they are under the full control of our own organic product structure. And the more charges we have, the less I would feel compelled to put another burden on our organization. So in a nutshell, execution stands out as a priority, and that is important as one of the two incremental elements on making our assumptions. One was short cycle, holding up in the second was project execution, you folks might remember that. So, maybe a focused acquisition approach, but definitely not a broad line invitation for the business to go out and buy. There’s enough work we have on our own topics.

Simon Smith – Credit Suisse

Okay. Thank you very much.

Mariel von Drathen

Next question, please?

Operator

We’ll take our next question from Peter Reilly from Deutsche Bank. Please go ahead, your line is open.

Peter Reilly – Deutsche Bank

Good morning, Joe. I’ve got two questions, please. Firstly, can you update us on your strategy in the Wind Turbine markets? On the one hand you’re saying that you’ve got very aggressive pricing in the onshore market. You said in the past that offshore pricing is also deteriorating. And at the same time, you’re taking large orders for onshore projects in North America. I mean, are those projects in North America, are they at acceptable prices or are you taking on very low-margin contracts just to win market share and grow in line with the business, with the market?

And then secondly, I’ve got a slightly more high-level question on Siemens and large flagship projects. Last year we had the problems at particle therapy, this year we’ve got the problems of the Wind offshore grid interconnection, and these are both areas where Siemens is taking very big, very risky contracts, very large prestigious projects. I mean, is this Siemens taking on board excessive risks for prestigious contracts because you see a big opportunity or because you think it’s good for the public image of Siemens?

I mean, is there a problem here or is it just bad luck that these two very high-profile contracts have gone badly wrong?

Josef Käser

Thanks, Peter. I hear your obvious frustration as far as it comes to projects not going as well as we would have wished for. We are not managing the company for good luck or bad luck. We are managing the company for value increase. So now, I mean, we have extensively talked about the Transmission topic. The orders have been taken based on the assumption that this company has done it many times before in the U.K. environment and has always managed to do very decent profits in the Transmission division. Secondly, we do believe that the German renewable energy policy offers a lot of opportunity to also serve as an example for many other economies to get the energy mix right.

Thirdly on the Wind, the strategy in general hasn’t changed. We do believe that Wind can be a decent business because it offers a significant amount of synergies together with our Energy Turbine business. Now, obviously, what we have seen, I respect that those 14%, 15%, 16% profit on Wind in the last three, four, five years has been water under the bridges. But I mean, obviously, we are not managing the company for a quarter, we are managing the company also for the mid and long term.

And what we see now is that after a period of three, four years of significant growth of differentiation in the market of some early-stage handicraft type of industry development, now we see the first structural change of consolidation and that one needs to be pushed through now. There are many players in the market who couldn’t care less about 5% or 10% profit. They care about surviving the next quarter and that, unfortunately, also is not exactly helpful for the ones who are more into value rather than survival.

We do believe that the situation is temporary. We expect that the Wind business in the mid and long term to become a business similar to what we have been seeing in Fossil in early stages, like doing projects with little, small, single one-digit margins and then add a service component on top of it, and that’s our long and mid-term strategy.

Maybe one last remark on those big, great projects, which, chances are that people believe it is some marketing. I mean, look, if you look at the Fossil division, this is where the biggest projects are and, I mean, obviously, the numbers suggest that we are able to do it if it is well-focused and well executed on.

So, I am with you that there is some frustration here on Wind, which, by the way, goes all the way through the company this time, it’s Wind as a division itself. It is the adjacent transition connection and it is also a weak point in the Drive Technology margin, which I’m sure you have noticed. We have the Mechanical Drives business that’s also somewhat feeling the heat and the challenge of the associated Wind customer base. So, we are aware of that. There is an underlying scheme of weakness in Wind, we expect that to be a fall-out of consolidation and we actively need to manage through it.

Peter Reilly – Deutsche Bank

Thank you, Joe. If I can just follow up very briefly, I mean, the consolidation of Wind, is that something you are just going to stand back and watch happen or do you intend to be a participant?

Josef Käser

Well, we certainly will not buy excess capacities which later on need to be restructured. And, obviously, the company is, obviously, as we see reasonably busy to get its own Wind exercise done, so therefore, I would be somewhat reluctant on any greater ideas to be an active capacity consolidator of that matter. If there is some local value creation by taking over some control base here or there which helps us utilize our footprint, maybe, but that’s pure speculation.

Peter Reilly – Deutsche Bank

Thank you.

Mariel von Drathen

Okay, thank you. We are running a bit tight on schedule. But I think we have time maybe for two questions. So, let’s go for the next one please.

Operator

Our next question comes from Martin Prozesky of Bernstein. Please go ahead, your line is now open.

Martin Prozesky – Sanford Bernstein

Good morning, everyone. Just two questions please. Just briefly getting back to the consolidations and the growth investments. Joe, you mentioned that – you talked about softening the additions and there might be adjustments in Transmission. Can you just give a sense to us at what point will you pull back quite sharply on those additions and maybe look at more productivity, given what you’re seeing in the cost trends and the top line and now growing at 3% organic and the order rate is coming in negative?

And then second question is on SFS. Balance sheet grew EUR1.5 billion in the quarter and now at EUR16 billion. Can you just give us a sense for where that growth went? Which product groups were supported and kind of what’s the limit to the balance sheet here?

Josef Käser

Okay. Well, you’re absolutely right in terms of Transmission as it comes to transformer, especially transformers, but also in part, substation, but especially transformer. This situation can only be solved by a significant boost of productivity, definitely, because I would not expect our competitors or our customers to increase the prices again, so therefore, it’s got to be focused and targeted on cost. You’re absolutely right, and this is where the focus lies. And that would, obviously, also include some realignment of footprints and the like. On SFS, SFS has grown a bit sharper than we had actually anticipated. EUR16 billion to EUR17 billion is just about the range we said would be healthy for SFS in 2012, maybe EUR16.5 billion or EUR17.5 billion, so controlled growth.

And there are two aspects to that. First, what we have seen is that more and more of our current customers are extremely, extremely keen on expanding the current project loans because, obviously, they feel some tightness in the banking environment, which comes from the fact that many banks reduced the balance sheet in order to cope with the core capital growth.

And the second is that we have been, and that was exactly our intention, we have been very, very active and, for the most part, successful in supporting projects in our industrial sectors, like Energy and Industry and in part Healthcare, to act as an incubator and as a catalyst to make projects possible that can then have incremental margin on the business. So, that is within our expectations. As I said, it was a bit steep for the quarter, but we expect that to ease out and the speed of that will significantly slow down.

Martin Prozesky – Sanford Bernstein

Great. Thank you very much.

Josef Käser

Sure.

Mariel von Drathen

Next question, please?

Operator

We’ll take our next question from Olivier Esnou of Exane BNP Paribas. Please go ahead, your line is now open.

Olivier Esnou – Exane BNP Paribas

Hello, good morning. Thank you for taking my question. So, three quick ones. First, on the H2 uptick potential, which you talk about, which is a pillar to maintaining your guidance, is that just the recent IFO improvement you were referring to, or do you have other specific things that you believe will improve in H2? I mean, is this a general macro comment, or are there some Siemens-specific trends you expect to improve in H2?

Second question is regarding Osram. I was wondering how long it could stay as discontinued operations really. And given that you mentioned that it will improve its position in LED lighting, I was wondering whether even while it is a discontinued operation, you will be more ready to commit capital for that business, notably potentially M&A?

And the third question is on capital gains. There was some capital gain in SFS this quarter. I was wondering to what extent we could or you see the potential capital gain generation in SFS or SRE for the coming quarters, as notably SRE used to have some capital gains over the past few years? Thank you very much.

Josef Käser

Yeah, thank you, Olivier. I’ll try to be quick even, though obviously those are short questions to ask but take longer to answer. Second half potential, I mean, look, there have been a lot of pundits out there who – and economists, who have the similar conclusion. We do have the benefit that we do not need to rely data points, but also on what our customers tell us. So, that’s usually a big benefit. And we do see that our customer sentiment, especially with German Mittelstand, as we call it, improving.

We also do see some signs in China that the soft landing is in full progress and that the industrial community, they’re again start thinking about spending. And, obviously, before you spend you need to usually think about it, so that’s actually a positive sentiment which leads us to believe, for the time being, that this could also be helpful in a very back-end loaded 2012.

On the SFS, there was not really a capital gain by financial instruments because the capital gains since we sold parts of our equity stake in the Bangalore Airport. It was a minor stake. We still have some both long lead plans, so, I mean, I would not expect that to continue in a similar way because it depends how we offload and when the market arrives, and that is also true for SRE. We continue to try to make variable costs out of fixed cost buildings by the fact that we sell them and lease them back for a certain period of time to get some flexibility on a global aspect, but we do that as market permits and not just because we need some profits to make any numbers. So, therefore, this will be depending on market conditions, but the overall strategy remains in place.

On Osram, I mean, look, I’m – even though the cycle is still in a phase where it bottoms out, I have to say that I’m reasonably optimistic that we get the matter done one way or the other. So, I would not be too concerned about being at some place and at some time in a situation where we say, well, there is some IFRS or there is some discontinued regulations, so we need to act. We have ideas in place and solutions to that, so it is important that these assets continue to practice its self-contained environment, which is not a bad thing.

Secondly, they need to go diligently on bringing the profitability up by boosting productivity, and there’s a lot of actions underway under the leadership of Wolfgang Dehen. And thirdly, and that’s also some fallout of a clear and material downturn on the LED segment, that the need for incremental capital in a material way, like for wafer packs and the likes, is not (inaudible) at this time because of the weakness in demand. So, therefore, this asset at this point in time is important, but it’s not on my priority list of what needs to be done in the company to bring the company forward.

Olivier Esnou – Exane BNP Paribas

Okay. Thank you very much.

Josef Käser

Next one?

Mariel von Drathen

Thank you. We’ll go for the last question, please.

Operator

This is the last question, from Gaël De Bray of Société Générale. Please go ahead.

Gaël De Bray – Société Générale

Yes, good morning, everyone. Thanks very much for taking my questions. And the first one is related to the China’s performance, which was a little bit growing in my view this quarter, with orders down 17% and sales down 4%, so clearly underperforming the rest of the other geographies. So could you elaborate a bit more on that specifically, please?

The second question relates to the extremely good performance in Industry Automation, in terms of new orders, plus 13%. So, I’d like a bit more details on that. Is the growth broad-based across the various short-cycle segments or are there any specific strong orders that came out from the Solutions activities that have been recently integrated and which might explain the increase for the overall division?

And if I might just add a last question, why do you keep investing so much in OpEx? Because, I mean, do you think this is still the right thing to do at a time when the economy gets tougher, or shall we expect going forward maybe a decrease in this strong spending we’ve seen so far? Thanks very much.

Josef Käser

Hi, Gaël. If we’re looking in China, the whole world was talking about the massive softening in China and the whole world was very prepared about a hard landing. So, I guess we just see what we have all been talking about for the last six months and it doesn’t really catch us by surprise. It’s important now that we have reason to hope that this is a soft landing which is in progress, and after that there will be a journey to new heights. So, it does not come unexpectedly. It is within our expectations and our expectation is also that in the fourth quarter we see some return to growth in that particular economy.

On Industrial Automation, I mean, it has obviously is not coming from Solutions, because, first, the numbers are like-for-like comparable. Secondly, anything which happens in Solutions at this time is more dilutive to the overall division, so that would not be exactly helpful. If you look at the order intake, which was obviously strong at face value, one need to know here that this comes particularly and to a material part from a strong order intake at year-end on the license business of PLM. So that should not be, unfortunately, overestimated in terms direct short-term impacts to revenues. It is more a spread-out order intake from the PLM division, which could last longer than just a quarter or two. That could be as much as 4 to 5 percentage points on the comparable growth of bookings.

Now, why investing so much in OpEx, I mean, we have explained the reasons last time when we were in London to lay out our assumptions for 2012. Indeed, the question is legitimate. On the other hand, we clearly took the approach and the focus on organic growth rather than spending a lot of money on acquisitions, which is usually the better choice, at least, in our case. However, seriously, we still, as you know, are targeting in improving our footprints into the Chiles and other emerging countries. We are targeting to change the business in Infrastructure & Cities to the current set of isolated divisions, more or less, through a commonly integrated approach to help our customers save cost.

So that takes, of course, some pre-investment to grow the business, it doesn’t come on its own. But you’re absolute right. The organization needs to deliver on the top line because right now you’re only seeing the bottom line. And as you heard earlier from Peter, we also expect the OpEx increase to ease over the quarters of the year because, obviously, we need to take a somewhat more distant approach to the tolls we have been laying out for the future.

Mariel von Drathen

Very good. Thank you, Gaël.

Gaël De Bray – Société Générale

Thank you.

Mariel von Drathen

We will stop the call now just to join Peter for the AGM and so for anyone that has still has questions, please give us a call. And with that, I’d like to thank you for participating in this call and wish you a good day.

Operator

That will conclude today’s conference call. Thank you for participation, ladies and gentlemen. Once again, let me repeat the instant replay numbers. Participants in Germany, please call the replay number 00-49-692-2222236, access code 6061841#. Participants in Europe, please call the replay number 00-44-207-1111244, access code 6061841#. Participants in the United States, please call the replay number 00-1-347-3669565, access code 6061841#.

This replay service will be available for 48 hours. A recording of this conference will also be available on the Investor Relations section of Siemens’ website. The website address is www.siemens.com/investorrelations. Thank you. You may disconnect your lines.

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