6. Risk management

The ThyssenKrupp Group's risk policy is aimed at systematically and continuously increasing corporate value and achieving the mid-term financial key performance targets within the scope of value-oriented management with active portfolio management. The name and reputation of the ThyssenKrupp Group and the "ThyssenKrupp" brand are key priorities for the Group. The Group strives to maintain its "investment grade" rating on the capital market.

We knowingly accept reasonable and manageable risks the more they are associated with the establishment and utilization of the success potential of our core competencies and the opportunities they present can be expected to provide an appropriate increase in value. Risks connected with support processes are transferred to other risk carriers, provided this is eco-nomically expedient. Risks not connected with core and/or support processes are not accepted. Overall the aggregate risk volume must not exceed the risk coverage potential available at ThyssenKrupp AG.

Apart from this, the Group has a code of conduct which is set out in policies and other directives, compliance with which is supported by training and monitoring measures. Speculative transactions or other measures of speculative character are inadmissible. Our conduct toward suppliers, customers and society is marked by fairness and a sense of responsibility.

Risk management system

On the basis of its overall responsibility within the Group, the Executive Board of ThyssenKrupp AG has laid down the framework for systematic and efficient risk management by defining requirements to be met throughout the Group. This risk management system supports the identification and optimization of risks as well as the perception of opportunities. Direct responsibility for early identification, control and communication of risks lies with the operating management of the risk holder; responsibility for monitoring lies with the next highest level.

As part of the risk management system and within regular reporting, the occurrence, status and significant changes of major risks are communicated by the Group companies bottom up, in line with the multi-layered corporate structure and with tiered threshold values. Apart from this, the segments also inform the Executive Board of ThyssenKrupp AG about the current risk situation on a bi-weekly basis. In addition, risks occurring at short notice and urgent risks with an impact on the entire Group are communicated outside the normal reporting routines directly to the responsible offices of ThyssenKrupp AG.

The adherence of the Group companies to the risk management system and their risk control measures are examined by the auditors and the internal auditing departments in Germany and abroad. The consequent findings serve to further improve early risk identification and control.

Risk transfer

In agreement with the Executive Board of ThyssenKrupp AG, the central service provider ThyssenKrupp Versicherungsdienst GmbH controls the transfer of risks to insurers using global insurance programs.

Prevention measures have been further intensified in order to maintain affordable insurance coverage of major risks and reduce the costs in cases of loss or damage. To counter the risk of increased deductibles, the Group regularly prepares and evaluates damage analyses. For example, the Steel segment has integrated property insurance-related economic and technical risk monitoring into its own risk management process. To further optimize preventive fire safety, common minimum standards exist for the entire segment.

Financial risks

Central responsibilities of ThyssenKrupp AG include resource allocation and securing the financial independence of the Group; in this connection ThyssenKrupp AG is also responsible for optimizing Group financing and containing financial risks.

ThyssenKrupp uses derivative financial instruments to counteract risks arising from foreign currency transactions, commodity price volatility and interest rate changes. Interest rate risk management, foreign currency management as well as hedging against commodity price risks are disclosed in detail in Note 28. Generally, hedging of translation risks arising from currency conversion for subsidiaries with non-euro accounting does not take place.

Sale of real estate, companies, etc. / Restructurings

Processing risks may result from the disposal of real estate, companies or other business activities. We have appropriately accounted for such risks that are probable. The same applies to restructuring measures in the Group.

Information security

In particular owing to the extensive integration of it-supported business processes among subsidiaries and with customers, suppliers and business partners, the risks in connection with information security are growing. To ensure the safe processing of business transactions, the information technologies in use are therefore continuously evaluated and adjusted. Measures used to improve information security are being developed continuously to eliminate or at least minimize the risks related thereto.

Pension and health care measures

On account of the system of fully funded pension plans prevalent in Anglo-Saxon countries, our Anglo-Saxon subsidiaries in particular are affected by the performance of the international stock markets; so far, at least, this has led to a significant rise in expenses. In addition, expenses for health care measures have increased considerably. Currently, a change of this situation is not expected.

Pending lawsuits and claims for damages

Pending legal actions and compensation claims are disclosed in detail in Note 27 to the consolidated financial statements.

Real estate and environmental protection

The former use and continued ownership of real estate gives rise in particular to risks from contaminated sites and mining subsidence. ThyssenKrupp counteracts these risks with appropriate preventive measures and the scheduled fulfillment of redevelopment obligations. An improved project management system helps contain risks. Insofar as measures are not completed prior to the balance sheet date, liabilities are accrued in the requisite volume.

Rising standards in environmental protection and conservation of resources are also causing increased expense in other areas. On the other hand, the use of modern plant and equipment has reduced rates and energy costs. The growing number of subsidiaries with certified environmental management systems has reduced the likelihood of environmental risks being realized.

Volatility of steel prices and dependency on the automotive industry

The volatility of steel prices and the dependency on the economic situation in the automotive industry have a significant influence on the economic development of the Group. However, the widespread business portfolio, both product-wise and geographically, has a stabilizing effect. Therefore, from the Group's point of view, risks arising from individual subsidiaries or segments concentrating on specific industries, customers or countries are limited.

volatility on the energy markets

Increasing crude oil and coal prices and the introduction of the EU-wide emission certificates trading system have triggered a steady rise in electricity and gas prices since the beginning of 2005. To counter the resultant risk, the Group applies a structured procurement system on the electricity market and concludes or renews long-term gas supply contracts.

Personnel risks

The competencies and commitment of the management within the Group represent decisive factors for the development of ThyssenKrupp as well as for the recognition and successful management of risks. ThyssenKrupp will continue to position itself as an attractive employer and strive for long-term retention of senior executives in the Group to secure and consolidate these factors. In particular, the creation of perspectives, target grouporiented mentoring, the early identification and promotion of potential executives and an attractive incentive system for senior executives are elements of systematic management development.

Risks of future developments

For 2006 we expect global economic expansion to continue at an unchanged pace. Real growth in the global social product is expected to reach 4%. This forecast is based on our assumption that with the global political situation remaining largely stable and secure, there will be no significant increase in oil prices, no distortions on the raw materials and foreign currency markets, only a moderate rise in interest rates and no international trade conflicts of note.

A further sharp rise in crude oil prices as in 2005 would represent a significant risk for the world economy. Procurement costs would considerably increase for oil-importing countries and slow down the momentum of these countries. There would also be negative knockon effects on the sales markets.

A sustained increase in the euro against the US dollar would adversely affect our position in the international marketplace, not just outside the euro zone but also in our core markets in Europe. Reasons for an increase in the value of the euro could be a relative increase in euro interest rates or a changed stance on the financing of the US trade balance deficit.

We expect raw materials supplies to remain secure in 2006. However, should capacity bottle-necks arise for cyclical reasons, this may lead to price increases. A further risk is posed by state intervention in free raw materials trading. If key raw materials countries seal off their domestic markets by imposing export restrictions and administrative barriers or by subsidizing imports of raw materials, this would distort international competition and raw material trade flows. This, too, would push up prices and likewise dampen the world economy.

Segment risks

The steel business counters the risks arising from cyclical trends in the steel business by optimizing costs, adjusting production in a timely manner and concentrating on exacting market segments. Quality and delivery deadline risks are minimized through continuing optimization of the value chains.

The main risks for the Carbon Steel business unit – which became the Steel segment as of October 1, 2005 – include market risks regarding sales and procurement, risks from exchange rate fluctuations as well as from loss of production and increased expenditure for repairs following equipment breakdowns.

ThyssenKrupp Stahl AG reduces the risk of limited core markets through globalization of manufacturing and enhanced internationalization of sales. ThyssenKrupp Stahl AG counter-acts the high competitive intensity in the market for carbon flat steel products through its innovation strategy, allowing competitive advantages to be attained, at least temporarily. The risk of rising raw material prices – caused by the continued high demand on the Chinese market, in particular for coal, coke, ore and scrap – can only be counteracted to a limited extent by alternative procurement sources and/or by passing the prices on. Preventive maintenance, modernization and investments work against the risk of an unplanned production standstill.

The Stainless Steel business unit – the Stainless segment as of October 1, 2005 – is confronted with risks arising on the one hand from market developments and on the other hand from existing or expected overcapacity in stainless production, especially in Europe and China. The companies of this segment curtail such risks by increasingly extending their value chains and strengthening their customer relationships through increased processing and customercentric service offerings. Rising competitive pressure is countered by the development of new applications for stainless steels and nickel-base materials and innovative products from these materials as well as modern and cost-saving process technologies.

The risks arising from the availability and the price development of raw materials, especially for nickel, chromium and alloyed scrap, are minimized by means of adequate contracts and assurance mechanisms.

The Automotive segment is lowering its dependence on regional markets by an increasing global presence, in particular in growth regions such as Asia and Latin America. Regardless of this, due to the current sales structure, further developments in the North American automotive market are particularly important for the segment. This relates in particular to the performance of individual customers, such as General Motors.

Increasing difficulties of individual customers, such as the insolvency of MG Rover in the past fiscal year, could lead to restructuring expenses in subsequent years. In addition, further financial burdens could result from the disposal of marginal activities.

An ambitious segment-wide cost reduction program is being implemented to compensate for increasing price pressure from automotive manufacturers.

Sales and earnings in the past fiscal year were affected by the strengthening of the euro against the US dollar. In addition to these translation effects, earnings were additionally impacted by changed exchange rate parities in foreign currency transactions, e.g. supplies from Brazil to the USA which are billed in US dollars.

The structural market development is characterized by concentration trends on the part of automobile manufacturers and competitors. The segment counteracts such trends through dynamic internal and external, quantitative and qualitative growth.

Automotive contains possible risks arising from the discontinuation of currently manufactured automotive products through research and development and, if necessary, cooperation with partners or acquisition of investments. Major consideration is given to the increased use of alternative materials and the use of electric/ electronic systems to replace mechanical solutions. At the same time, however, the increasing complexity of products as well as underlying production processes in some cases carry the risks of higher start-up costs and a strained income situation.

In the Technologies segment, the Plant Technology business unit continues to curb risks arising from the processing of long-term contracts. Particularly relevant in this context are the further intensification of project controlling, the increased use of project management measures and the speedy implementation of efficiency enhancement and organization optimization measures.

Marine Systems, too, aims to respond quickly to risks in order processing by continuously monitoring its technical and economic performance and further improving its processes and control instruments. Competitive disadvantages in merchant shipbuilding are limited by concentrating on small market niches and increasingly implementing performance-enhancing and cost-reducing measures.

Mechanical Engineering aims to counter risks resulting from declining demand in core markets by developing new sales markets and establishing/expanding production capacities in growth regions (India, China). These activities are accompanied by ongoing performance-enhancement and cost-reduction programs.

Against the background that the Shanghai line is operating smoothly and the Transrapid business unit is involved in the development program financed by the German government, further projects are now to be worked on. This will be accompanied by the systematic establishment and expansion of a quotation and project controlling system.

Within the Elevator segment, the spread of risks reflects not only the regional distribution of activities but also the different product lines. Generally the risk structure of the service activities and the modernization of existing installations must be viewed separately from the new installation business. While the service and modernization activities are relatively unaffected by cyclical fluctuations, the new installation business is strongly influenced by the situation in the construction sector and the development of materials prices. However, related to the construction market, the regional distribution of activities mitigates risks, with ThyssenKrupp Elevator represented in over 60 countries. The unit's incorporation in the ThyssenKrupp Group and global purchasing initiatives reduce risks relating to materials prices.

For new installations, an increased risk generally continues to exist in connection with the handling of major projects, such as the project at Dubai Airport, However, following targeted know-how transfer within the segment, especially in the area of project management, efficient risk control methods are already in operation. In the services activity, risks relate in particular to the ambitious growth target still being pursued, which is to be achieved through organic and external growth. Having already completed numerous acquisition transactions, the segment has a wealth of experience in respect of post-merger integration activities and as a result the risks associated with acquisitions can be effectively contained.

The Services segment focuses on materials trading and services, which are exposed to price risks in both procurement and sales. Services has an extensive package of measures to counter these risks. This includes above all the systematic further development of logistics and logistics control instruments, in particular the expansion of the centralized warehousing concept to optimize inventories. At the same time, to lower the dependency on cyclical price developments the segment is expanding its service business, which does not depend on the price development of materials. Risks from the cyclical development on the markets as a whole and in specific sectors are reduced by the activity's worldwide presence, a broad customer base and a high degree of diversification. The resultant wide spread of risks also applies to the risks from potentially uncollectible receivables, which are additionally limited by the use of hedging instruments.

Risks for the Industrial Services result from the considerable competition and price pressure. This has been countered by continuous capacity adjustments on the one hand and new service offerings and sales initiatives directed at specific sectors and customers on the other. Appropriate provision was made to cover the risks from strategic decisions, in particular the portfolio streamlining which included the disposal of the Facilities Services activity. An ongoing project controlling system is in place to manage risks from the final completion of projects.

Summary

The overall evaluation of the risks shows that the Group is affected principally by market risks; this includes economic price and volume developments in particular, as well as the dependency on the development of major customers and industries. Performance processes are well controlled in general and, therefore, less subject to risks. Overall, it can be noted that the risks in the ThyssenKrupp Group are contained and manageable and do not pose a threat to the existence of the Company. Nor are any risks discernible that may jeopardize the existence of the Company in the future.