MAKING MODERN LIVING POSSIBLE

Transcription

1 MAKING MODERN LIVING POSSIBLE Annual Report Danfoss A/S 2004

2 CONTENTS Financial Information Financial Highlights DKK Financial Highlights EUR Management Report Management Report Shareholder Information Corporate Governance Divisions Danfoss Refrigeration & Air Conditioning Division Danfoss Heating Division Danfoss Motion Controls Division Danfoss Services Sauer-Danfoss Inc. Accounting Financial Risk Management and Insurance Management Statement & Audit Report Significant Accounting Policies Profit & Loss Account Balance Sheet, Assets Balance Sheet, Liabilities Statement of Cash Flow Capital and Reserves Notes, table of contents Danfoss Group Companies Organisation Corporate Citizenship Corporate Citizenship People & Values Global Compact Global Compact Accounting Principles Annual Report Danfoss A/S

3 FINANCIAL HIGHLIGHTS mill DKK PROFIT AND LOSS ACCOUNT Net sales 14,797 14,384 14,923 15,434 16,345 Operating Profit added Depreciations, Amortisations and Impairments (EBITDA) 1,596 1,439 1,571 1,994 1,757 Operating profit ,109 1,083 Income from associates and joint ventures Financial items Profit before tax ,029 1,100 Net profit BALANCE SHEET Total assets 11,727 11,945 12,272 13,081 13,158 Net investments (excl. goodwill) ,125 Net investments in goodwill Equity 6,351 6,636 6,842 7,267 7,935 Interest-bearing debt 2,039 2,070 2,022 1,766 1,125 Net interest-bearing debt 891 1, CASH FLOW STATEMENT Cash flow from operating activities ,462 1,254 1,200 Cash flow from investing activities -1, , Free cash flow Cash flow from financing activities Cash and cash equivalents at 31 December 1, ,693 1, Number of employees (headcount) 16,905 16,544 16,972 17,449 17,543 KEY FIGURES RONA 10.3% 8.9% 10.7% 16.7% 15.4% EBIT margin 4.8% 4.2% 4.8% 7.2% 6.6% EBITDA margin 10.8% 10.0% 10.5% 12.9% 10.7% Net investment ratio 2.3% 8.0% 4.8% 10.5% 7.4% Return on sales 5.0% 3.3% 5.0% 6.7% 6.7% Return on equity 8.2% 5.1% 7.6% 10.5% 10.2% Equity ratio 54.2% 55.6% 55.8% 55.5% 60.3% Leverage ratio 14.0% 16.9% 4.8% 5.2% 2.1% In the case where the Danish Association of Financial Analyst defines the above ratios, the ratios are computed according to these definitions. Annual Report Danfoss A/S

4 DEFINITIONS RONA (Return On Net Assets) Operating Profit as percentage of average Net Assets. Net Assets is Total Assets deducted Investments in joint ventures and associates, Cash and cash equivalents, Provisions and Non-interest bearing debt EBIT-margin Operating Profit as percentage of Net Sales EBITDA-margin Operating Profit added Depreciations, Amortisations and Impairments as percentage of Net Sales Net Investment Ratio Net Investments as percentage of Net Sales. Net Investments is total acquisitions and disposals of tangible and intangible assets (including acquisitions and disposals related to business combinations), except goodwill Return on Sales Profit before Tax as percentage of Net Sales Return on Equity Net Profit as percentage of average Shareholders Equity Equity Ratio Shareholders Equity as percentage of Total Liabilities and Shareholders Equity end of year Leverage Net interest-bearing debt as percentage of Shareholders Equity end of year Annual Report Danfoss A/S

5 FINANCIAL HIGHLIGHTS mill EUR PROFIT AND LOSS ACCOUNT Net sales 1,985 1,930 2,008 2,077 2,197 Operating Profit added Depreciations, Amortisations and Impairments (EBITDA) Operating profit Income from associates and joint ventures Financial items Profit before tax Net profit BALANCE SHEET Total assets 1,571 1,606 1,653 1,757 1,769 Net investments (excl. goodwill) Net investments in goodwill Equity Interest-bearing debt Net interest-bearing debt CASH FLOW STATEMENT Cash flow from operating activities Cash flow from investing activities Free cash flow Cash flow from financing activities Cash and cash equivalents at 31 December Number of employees (headcount) 16,905 16,544 16,972 17,449 17,543 CONVERSION FACTOR BETWEEN DKK AND EUR Profit and loss account and cash flow statement (average exchange rate 100 EUR) Balance sheet (exchange rate at 31 December, 100 EUR) KEY FIGURES RONA 10.3% 8.9% 10.7% 16.7% 15.4% EBIT margin 4.8% 4.2% 4.8% 7.2% 6.6% EBITDA margin 10.8% 10.0% 10.5% 12.9% 10.7% Net investment ratio 2.3% 8.0% 4.8% 10.5% 7.4% Return on sales 5.0% 3.3% 5.0% 6.7% 6.7% Return on equity 8.2% 5.1% 7.6% 10.5% 10.2% Equity ratio 54.2% 55.6% 55.8% 55.5% 60.3% Leverage ratio 14.0% 16.9% 4.8% 5.2% 2.1% In the case where the Danish Association of Financial Analyst defines the above ratios, the ratios are computed Annual Report Danfoss A/S

6 MANAGEMENT REPORT Summary Danfoss achieved a profit before tax in 2004 of 1,100m DKK. The result is considered satisfactory. The Group's result followed a growth in net sales of 6%, in that net sales increased to 16.3bn DKK from 15.4bn DKK in The operating profit excluding other income and expenses increased by 20% to 918m DKK, while the operating profit (EBIT) was 1,083m DKK. For 2005, Danfoss expects net sales to reach bn DKK. When adjusted for divestments, this equals a growth of between 4.5% and 7% compared to The operating profit (EBIT) is expected to reach 900-1,000m DKK. Any effects of future acquisitions and divestments are not included in the expectations. Profit and Loss Account Net sales rose to 16,345m in 2004 from 15,434m in 2003, corresponding to a growth of 6%. Calculated at last year's exchange rate level and adjusted for acquisitions and divestments, this equates to growth in net sales of 9%, which is an improvement compared to 2003, where similar growth was 5%. The positive development in sales from the end of 2003 continued through the first half of 2004, where there was generally growth on all of the Group's markets. The weak dollar, combined with increasing raw material prices, put a damper on the recovery in the second half of the year. Sales development was still positive, even though the growth rates were declining. Sales on the markets in Eastern Europe, Russia, Asia, among these China, totalling more than 20% of net sales, continued to show positive double-digit growth rates. The markets in North and Latin America also showed positive double-digit growth rates. The European market only showed a minor improvement, and the German market in particular was characterised by stagnation. The situation in Germany is not expected to change considerably during The increasing prices for raw material prices including copper, brass, steel and oil have affected production costs throughout 2004, and had a negative impact on earnings. In response to this trend, the Group has raised the prices of a number of the products that were affected the most. Operating profit excl. other operating income and expenses rose by 20% to 918m DKK. The positive sales development through most of the year has improved capacity utilisation. This, combined with the targeted work to improve productivity and the successful integration of the acquired companies in 2003 and 2004, helped earnings improve in The costs of running of the Group's productivity programme, which extends Lean Manufacturing principles to all of the Group's production sites, amounted to approx. 66m DKK in The productivity programme focused on productivity improvements in its first phase and in the next phases it will contribute to improving the efficiency of logistics, sales and administrative functions. The results are expected to become visible over the coming years. Operating profit (EBIT) decreased by 2%, to 1,083m DKK from 1,109m DKK. The decrease in EBIT compared to last year is primarily due to the fact that the 2003 EBIT figure included non-recurrent income from the sale of activities and non-recurrent write-downs totalling 341m net DKK. The corresponding figure for 2004 was 165m DKK. Annual Report Danfoss A/S

7 The operating profit corresponded the Group's expectations at the beginning of the year. Expectations for EBIT were 825m-925m DKK, excluding non-recurrent income. In the light of a positive result for the first half of the year, expectations for net sales were upwardly adjusted at the half-year mark to bn DKK, and EBIT to reach 900-1,000m DKK, including non-recurrent income. In this light, the result is considered satisfactory as the operating profit reached 1,083m DKK. The share of income before tax from Sauer-Danfoss was 145m DKK, which is an increase of 146% compared to the same period the year before. In 2004, Sauer-Danfoss experienced growth in both net sales and earnings. Financial income and expenses were -121m net DKK, a decrease of DKK 17m. The change can be ascribed to lower interest expenses as well as currency and share price adjustments. Profit before tax increased to 1,100m DKK from 1,029m, corresponding to an increase of 7% compared with The Group's share of profit after tax is 775m DKK, compared to 744m DKK in 2003, an increase of 4%. The profit after tax is considered satisfactory, in the light of the increasing raw material prices and declining growth rates that characterised the second half year of RONA measures the Group's ability to carry the interest of its net assets. In 2004, RONA was 15.4%, compared to 16.7% in The decrease can primarily be ascribed to the fact that the 2003 figures included non-recurrent income from the sale of activities and non-recurrent write-downs, which exceeded the 2004 figure by approx. 176m DKK. Equity increased to 7,935m DKK from 7,267m DKK, a growth of 9%, the equity ratio increased to 60.3% from 55.5% Statement of cash flows - free cash flow The free cash flow, which is a combination of cash flows from operations of 1,200m DKK and cash flows from investments of -919m DKK, totalled 281m DKK compared with 112m in The increase in free cash flow can primarily be ascribed to fewer investments and income as a result of the divestment of activities. Cash flows from operations totalled 1,200m DKK, a decrease of 54m DKK compared to 2003, corresponding to a decrease of 4%. In spite of less tax paid and lower interest expense, among other things, a larger tie in the working capital has reduced the cash flows from operations, and increasing ties in stock have only in part been offset by an increasing trade creditors level. In 2004, the Group focused on reducing the number of debtor days, and in spite of the increased activity level, the number of debtor days was reduced to 65.5 in 2004 from 68.3 the year before. Cash flows from investments amounted to -919m DKK, corresponding to a decrease of investments of 223m DKK, or 20%. An increased number of investments in buildings, machines etc. of about 500m DKK contributed to a considerably larger total investment level compared to did not see the same level of acquisitions as Focus on the core business meant that a number of activities not related to the core business were divested. The total cash flows from the acquisition and sale of companies were therefore 355m DKK compared to -382 DKK in Financial resources As a consequence of improved earnings and a slimming of the Group balance, which is the result of divestments, the equity ratio increased to 60.3% from 55.5% in Net interest-bearing debt has decreased to 167m DKK in 2004, from 377m DKK in the year before, corresponding to a 56% reduction. This means that the Group's leverage (net interest-bearing debt as percentage of Shareholders' Equity) has decreased, since it was 2.1% in 2004 compared to 5.2% in Annual Report Danfoss A/S

8 The Group's policy is to maintain considerable long-term financial resources. The Group had unused, long-term binding credit facilities of about 3.4bn DKK as of December 31, (3,0bn DKK). Research and development The research and development activities in the Danfoss Group are primarily conducted within the individual business areas. At Group level, about 3.5% of net sales was used for research and development in 2004, excluding venture activities. This level has been maintained over the last few years. In order to strengthen innovation and support growth in the Group, additional funds have been earmarked for research and development activities in coming years. Danfoss has developed a new compressor type, which uses the refrigerant CO 2. A new valve program for industrial refrigeration was also developed, which combines well-known and new technologies and which was granted the prestigious American "AHR Innovation Award" as well as a gold medal at the Polagra International Food Fair in Poland. Within the refrigeration and air conditioning field, a breakthrough was also obtained with Danfoss Turbucor's new oil-free centrifugal compressor, which reduces energy consumption by up to 30-40%. Thermostats for towel dryers with focus on product design were, among others, introduced in 2004 within the heating market, and the product range of radiator thermostats was also renewed considerably on the Polish market. Furthermore, a new range of indoor and outdoor thermostats for electrical floor heating was launched. The product range for the oil burner market was expanded with new oil pumps and ignition unites for hot water cleaners. Danfoss Motion Controls Division introduced the first version of a new modularly built and flexible generation of frequency converters, VLT AutomationDrive, a new design for High Power frequency converters, a complete Softstarter program and a new software system, MCT10, among others. The VLT AutomationDrive won the prestigious 2004 if Design Award. The prize was granted on grounds of the most user-friendly functionality, and Danfoss was selected from 1,003 participants from 34 countries in the category interface. Please refer to the Divisions' reports for further information on product development and market introductions. The Group files a number of patent applications each year for new inventions with a view to safeguard the rights to use its research results. In 2004, 71 new applications were filed, and the Group obtained approvals of a total of 222 patents. The total number of active patents were 872 at the end of Danfoss Venture In 2004, a new strategy was launched in relation to the venture activities, which means that focus is now both on external and internal ventures. Danfoss spent 127m DKK in 2004 on venture activities and the Group's target is to spend m DKK annually to promote the development of new ideas and secure improved access to knowledge about development of new technologies. The funds will also be spent on investments in companies and ideas outside the scope of the Group, which have a potential in the long run to strengthen or expand the current business areas. When the Group invests in an external venture, it typically takes place by obtaining an ownership as a minority shareholder with an ownership share of less than 20%. Danfoss requires a seat on the board and the preparation of concrete business plans. In order for a venture to be granted further funds from Danfoss, it is important that the expectations of the business plans are fulfilled and, consequently, that the sub-targets are fulfilled. Annual Report Danfoss A/S

9 In order to be able to retain and place internal ideas for the benefit of existing core businesses and to be able to focus on the ideas that are outside the scope of the existing business, it is crucial to centrally embed the ideas. Danfoss Venture provides both ideas and ventures to relevant functions in the Group and Danfoss Ventures contributes to selecting and sponsoring the right ideas. All internal ideas will be managed as ventures are managed. Consequently, Danfoss emphasises that both internal and external ventures are managed in the same way. Each venture will have its own board, headed by a top manager from Danfoss. All ventures must prepare business plans and fulfil the sub-targets to obtain the funding for the further development. Management and coordination of the activities will be under the auspices of Danfoss Venture in close cooperation with the Group's divisions. Risks As part of the ongoing risk management Danfoss aims continuously to identify the risks that could have a negative impact on the Group's activities, financial results or future growth. The risk management is coordinated by the Group's Risk Management function and is decentralised embedded in the Group's business units. The identified, monitored risk areas include financial and operational areas, risks related to customers and market conditions as well as those related to the company's environmental and social responsibility. Financial and operational risk management Danfoss' central finance department deals with the financial and operational risk management in cooperation with the Group's business units. Refer to the section Financial risk management and insurance for more details. Lawsuits Danfoss is a party to lawsuits. It is the view of the management that the outcome of the lawsuits will not have a considerable impact on the Group's financial position. Losses on customers The risk of losses on customers is primarily connected with customers' non-payment for products already supplied. The Group supplies many different products to customers worldwide and none of the customers are large enough to be a risk of critical business losses. Product risk Even though the majority of Danfoss' products do not incur any risk during use, they can be subcomponents in end products that are possibly hazardous to the surroundings. Danfoss therefore invests time and money to ensure that the products are environmentally-friendly and safe for customers. Environment Danfoss' environmental work is based on a number of internal rules and standards that are defined in the Group's Environmental Policy. In addition to these rules, all of the Group's factories must comply with the requirements set by the local authorities in the countries where the factories are located. All of the Group's factories must implement environmental management systems according to the international environmental management standard ISO The environmental management systems ensure that the environmental impact is reduced at source and that the environmental work is embedded in the entire organisation. Environmental management also ensures that Danfoss achieves considerable savings in relation to resources and costs for waste disposal, for example. 81% of the Group's 53 factories included in the environmental accounts are environmentally certified, while 11% are about to be environmentally certified. The remaining 8% primarily consist of assembly factories that are too small to have an environmental management system. The Group's preventative environmental work also entails that none of the factories face major investments as a result of new environmental requirements. Annual Report Danfoss A/S

10 The introduction of three new EU Directives concerning the re-use of electronic products, prohibitions against substances in electronics products and demands for environmentally-friendly development of energyconsuming products will have an effect on earnings in the coming years. The three Directives are estimated to lead to increased expenses of million DKK annually. The Directive concerning the re-use of electronics products (WEEE) will come into force in 2005, and the prohibition against substances in electronics products (RoHS) in The Directive concerning environmentally-friendly development of energy-consuming products (EuP) is expected to come into force in 2007 or A good working environment is first and foremost a question of management's approach. It is important to Danfoss that employees work in a healthy and safe environment and that the requirements regarding the promotion of health and an accommodating labour market are taken into consideration, which are included in the Danish 923 regulation on certified working environment management. Most Danish factories were certified in 2004 according to the international specification regarding working environment management, OHSAS All factories received their certificate during Some also received a certificate according to the 923 regulation. The remaining, small factories will complete the certification during In 2005, the Group will consider whether Danfoss' factories outside Denmark should also implement the working environment certification according to OHSAS The section on Corporate Citizenship contains a range of further information on the Group's environmental matters. UN Global Compact In 2002, Danfoss joined UN's Global Compact, which encourages businesses to contribute to the creation of global sustainable development. Global Compact was chosen as the framework for how Danfoss manages its social and environmental responsibility, both internally and externally. For further information about Danfoss' management of the social and environmental responsibility, refer to the section about Corporate Citizenship. The Group's organisation Danfoss has changed the names of the core business areas as of January 1, The Group will remain organised around three business areas, which in future will be called Divisions: Danfoss Refrigeration & Air Conditioning Division, Danfoss Heating Division (including Danfoss Water Controls) and Danfoss Motion Controls Division. In the 2004 Annual Report, the Group has chosen to use the new names. Sales primarily take place via regional sales organisations within the individual divisions. The divisions also each include a number of Business Units, maintaining development and production within different product groups. The Group's venture activities are under the responsibility of Danfoss Venture, but are organisationally placed at either Danfoss Innovation, Danfoss Bionics or in one of the divisions. Danfoss also includes a number of shared corporate and service functions. Acquisition of companies and establishments in 2004 On January 1, 2004, Danfoss acquired Gemina Termix A/S, located in Sunds in Denmark, with 50 employees and net sales of 85m DKK. The company supplies water heaters and district heating stations for apartment buildings, single family dwellings and larger buildings. The acquisition of Gemina Termix was part of the Group's strategy to become the leading supplier within the district heating industry. The company is included in the accounts as of April 1, Danfoss increased its ownership share in Convec A/S, in Karlslunde, Denmark, as of April 2, from 39% to 97%. In December, the Group acquired the remaining 3%. Convec A/S produces convector systems that can be used for both heating and comfort cooling. The company employs three people. Annual Report Danfoss A/S

11 The Danfoss Group entered an agreement concerning a strategic export cooperation with DanTaet A/S in Odense, Denmark, with effect from May 1, The agreement means that Danfoss will globally and exclusively market leakage protection products from DanTaet A/S within the field of district heating. In June, Danfoss entered an agreement with Turbocor Inc. in Montreal, Canada, to establish a 50/50 joint venture company called Danfoss Turbocor Compressors Inc. The company employs 70 people and is established with Turbocor's existing product line of oil free centrifugal compressors. The company is based in Montreal, Canada. The first sod was turned in June for a new factory of 12,000 square metres in Wuqing, China. The building project, amounting to approx. DKK 50m, is expected to be completed in The expansion of the existing factory to approx. 25,000 square metres for production was also completed, for a current total of 40,000 square metres. A new factory construction of 12,000 square meters was also started in the Istra region outside Moscow in Russia in June. The new facilities will replace the existing rented premises in Moscow. The construction, amounting to approx. 130m DKK, is expected to be completed in September In November, Danfoss entered an agreement with the Industrialisation Fund for Developing Countries to take over the Fund's ownership share in Danfoss (Tianjin) Limited, China. Danfoss now owns 100% up from 80%. In December, Danfoss entered an agreement with the Investment Fund for East European Countries to take over the Fund's ownership share in ZAO Danfoss in Moscow, Russia. Danfoss now owns 100% up from 75%. Danfoss invested in a number of different ventures throughout the year, as in previous years. Sale of companies in 2004 In April, Danfoss sold the main part of its refrigeration wholesale companies, integrated in the Elsmark Group, to the Swedish group G & L Beijer. The divestment is part of Danfoss' efforts to concentrate the activities on the core businesses. The Elsmark Group has net sales of approx. 735m DKK and employs about 330 people. The activities are included in the accounts up to September 30, In October, the Group entered an agreement with the investment foundation 3i and the company management to acquire 75% of Danfoss Marine Systems that employs about 330 people and has net sales of approx. 400m DKK. Danfoss remains financial partner with 25% ownership of the company. At the end of December, Danfoss entered an agreement to sell Danfoss Analytical A/S, Sønderborg, to the American company Danaher with expected takeover at the beginning of The sale is conditional on the competition authorities' approval of the agreement. Danfoss Analytical employs 77 people and had net sales of 68m DKK. Employee conditions At the end of 2004, the Danfoss Group employed 17,543 people, which was an increase of 94 people compared with In 2004, the number of employees was reduced by a total of 595 as a result of the divestment of activities, whereas 167 employees joined in connection with the acquisition of companies. The real growth in the number of employees is 3%. There are 14,244 employees in Europe (14,404 in 2003), 1,527 in Northern America incl. Mexico (1,572), 1,213 in Asia-Pacific (912) and 559 in other regions (561). In Denmark, 6,048 people were employed in 2004 compared to 6,102 in the year before. In 2004, a global employee perception survey was carried out at Danfoss. It revealed, among others, that the level of motivation and satisfaction among employees is generally satisfactory and above average among similar companies. The survey also highlighted areas of improvement, including the personal and professional development of employees and increased focus on the leaders' ability to communicate and show leadership. Read more about the survey in the section People and values. Annual Report Danfoss A/S

12 Knowledge In order for Danfoss to maintain, develop and attract the most qualified employees, the Group should, among other things, offer attractive salaries and offer qualifying supplementary education. It also requires that Danfoss, as a company, has an image that employees and new, potential employees can identify with. Danfoss is a global Group and the salary level differs in the countries where Danfoss has activities. The Group aims to offer all employees attractive salaries that compete with other companies in the areas where the Group's employees work. An internal survey was carried through in the autumn, revealing that the salary level in the main part of Danfoss' companies at least equals the national minimum level. At the majority of the companies, salaries are considerably above that level. The development of the necessary employee competencies takes place both externally, as well as internally at Danfoss Academy and Danfoss Management Institute. These two internal educational institutions held a total of 8,960 days of training in 2004, which is about 9% more than in The increased need for leadership at the Group, revealed by the employee perception survey, will actively be incorporated in the future development of leaders. Increased education will ensure that Danfoss has even more skilled leaders and that they understand and know how to handle the challenges occurring at a global company. The employees' need for further training will also be actively incorporated in ongoing employee development. The Danfoss Group spent approx. 110m DKK in 2004 on the education of employees, corresponding to an increase of approx. 9% compared to Identifying with the values of the company plays an increasingly important role for potential employees as they search for a new job. The Danfoss Group knows that the external world judges on actions and behaviour. Thanks to open internal and external communication and dialogue, the knowledge of the Group's Vision and Core Values has increased. This has also resulted in a general strengthening of Danfoss' image, among other things. One example is the survey that the Reputation Institute conducted in 2004, showed that Danfoss came in second as the company that has the second best image in Denmark. The result has improved compared with the survey from 2003 when the company came in sixth. The analysis is conducted each year by the Reputation Institute, which is a global organisation of leading academics in cooperation with the analysis company Harris Interactive. Changes to the Executive Committee and Board At the Danfoss Annual General Meeting on April 16, 2004, Sven Murmann was elected new member of the Board. The Board then elected Henrik E. Nyegaard as Chairman and Tom Kähler as Vice-Chairman. On November 1, 2004, the Board employed Niels B. Christiansen, aged 38, as Executive Vice President. Niels B. Christiansen came from a position as President and CEO at GN Netcom. Remuneration of the Executive Committee and Board The Board members receive an annual fee set at the Annual General Meeting. In addition to the abovementioned fee, payment can be conferred on Board members who have performed special tasks. Additional payments have not been transferred in The total Board fee was 2.0m DKK in In addition to the fee, the Board are granted share options. The members of the Executive Committee have individual remuneration packages that are adjusted once a year by the Board. In addition to the regular remuneration, a bonus scheme is linked to financial development of Danfoss A/S. Warrants are also included, which is described in detail in the section Warrants and options. The Executive Committee receives gross pay, which includes a pension contribution paid by the company. Each member of the Executive Committee can chose to retire at the age of 63 and will then continue to be paid a sum that equals their gross pay until the age of 65. Annual Report Danfoss A/S

13 The members of the Executive Committee have a notice period of between one to three years, depending on the time they have been on the Executive Committee. The Executive Committee members are entitled to severance pay equalling 36 months' remuneration, if the employment ends for other reasons than own resignation. All members of the Executive Committee are entitled to a redundancy scheme if Danfoss is taken over by another company, and can, in such case, also resign at short notice. Such an event does not mean that granted options can be used since obligations in connection with warrant agreements would be taken over by any purchaser of the Group. Warrants and options Danfoss has introduced a range of incentive programmes based on shares for senior employees, the Executive Committee and the Board. Since 2001 the senior employees and the Executive Committee have been granted warrants in several turns and at the end of 2004, 81 senior employees and the four members of the Executive Committee had been granted a total of 333,261 warrants. The Board also has been granted options in several turns since 2001, and per December 31, 2004, Board members had been granted a total of 15,000 options. At the 2004 Annual General Meeting a new option scheme to the Board and a new subscription scheme to the Executive Committee and senior employees was decided upon. The schemes allow the participants to be granted options and warrants from 2005 to The maximum number of warrants to be granted totals 9,000 pcs. and 238,300 pcs., respectively, of which about one third will be granted in The conditions of being granted warrants or options are based on an annually fixed target for RONA, which was set in 2004 at 12.5% or above. The condition was fulfilled in 2004, so it is expected that 80,167 warrants will be granted to the senior employees and 3,000 options to the Board. According to the Black-Scholes model, the value of the warrants and options is calculated at 40m DKK. The participation in the incentive scheme is also conditional on the fact that the senior employees and the Executive Committee buy a number of shares at full market price (2004: 1,307 DKK each). Events after the end of year Significant events have not been recorded after the Balance Sheet date, which would affect the Group's financial position. Expectations for 2005 The Danfoss Group expects the following for 2005: Net sales are expected to reach to 16.75bn DKK. This equals growth of between 4.5% and 7% compared to 2004, when adjusted for divestments. The operating profit (EBIT) is expected to be 900 to 1,000m DKK. The EBIT margin is expected to be between 5.5% and 6.%. Any impact from future acquisitions and divestments is not included in the expectations. Prerequisites The Group increased its focus on the core business areas during 2004, via the divestment of a number of non-core businesses that had a total net sales of about 1.1bn DKK. No acquisitions with a significant impact on net sales were made during the year, so the effect is also reflected in expectations. The assumptions are also based on the fact that market conditions in 2005 will only improve marginally compared to Growth in 2005 is expected to primarily come from the overseas markets and Asia, and China is expected to be particularly important in future years. Europe is expected to continue to show low growth rates and stagnation is expected on the important German market. As a large part of Danfoss' sale outside Europe is based in dollars, a low dollar exchange rate will also contribute to restricted growth in net sales. The expectations are based on a dollar exchange rate of 6.00 DKK/USD. Annual Report Danfoss A/S

14 High raw material prices of copper, brass, steel and oil, among others, influence production costs and if the prices continue to rise at the same rate as in 2004, this could have a negative impact on the 2005 result. If capital is needed to finance the continued growth, Danfoss is internally prepared for a stock exchange listing. The Group has aligned its routines and reporting systems during 2004 in preparation, however a listing is not expected in Business concept and strategy Danfoss' business concept and strategy is based on the Danfoss Vision. The Vision was drawn up in 2001 and guides the organisation to reach future targets that are defined in the perspective plan. Danfoss will be a global leader within our core businesses, as a highly respected company, which improves quality of life by mastering advanced technologies in customer applications while creating value for all stakeholders perspective plan The perspective plan describes the targets of the Group, including the projects and activities, which will allow Danfoss to get closer to its strategic goal of being number one or two within all of the strategic core business areas by the end of the perspective period in Net sales of 24bn DKK is expected in 2008, which corresponds to an average, annual growth of 9% from 2004 to Growth was 9% in 2004, when adjusted for acquisitions and divestments. An increase in net sales is to be achieved through a combination of organic growth and acquisitions. Growth is expected to be achieved primarily from the American, Eastern European and Asian markets. The profitability will also be strengthened, in that the earnings capacity measured in terms of an EBIT margin is to be 10%. In 2004, the EBIT margin was 6.6%. When allowing for the effect of expected acquired goodwill in the perspective period, target is a RONA (Return on Net Assets) of 20% by the end of RONA was 15.4% in In particular, the Group has high expectations for the Chinese market and a new strategy was prepared in 2004 for this market. In 2004, Danfoss had net sales of about 700m DKK in China and the objective is for sales in China to increase by 40% per year over the next three years. The aim is also for the market share to increase to the same level as in Europe. Growth is primarily to be reached through organic growth, but a few company acquisitions could be a possibility. In order to reach the targets of the Chinese market, it will be necessary to employ a considerable number of employees in China. In 2004, the Group had approximately 700 employees in China. The number is expected to increase significantly during the perspective period. Focusing on the core business is another important part of the Group's efforts to reach its strategic goals and in 2004 Danfoss came closer to that goal through the divestment of companies, which had activities outside the core business areas. Recent divestments mean that the Group has a more strengthened and profitable core business at the beginning of Even though the business now focuses on its core competencies, the company portfolio is evaluated on an ongoing basis with a view to establish whether Danfoss is still the right owner, or if some activities would improve with new owners. Acquisitions are an important part of Danfoss' efforts to become global leaders within the strategic core business areas, and so, ongoing acquisitions will be made during the perspective period. Based on the Group's strategic core business areas, Danfoss evaluates potential acquisition candidates on an ongoing basis. Danfoss Business System One of the projects that will help ensure that the targets of the perspective plan are reached is the Danfoss Business System. The purpose is to establish ongoing improvements within all parts of the company's value chain, including the purchasing, production, development, sale and administrative functions. Annual Report Danfoss A/S

15 In 2004, the focus area was production where reduction of non-profitable activities in the production processes can lead to considerable savings. The most important areas of improvement are elimination of bottle-necks and establishment of a more efficient production flow, creating a basis for an improved utilisation of the production facilities. The need for productivity improvements is adapted specifically to the factory in question. This project will continue in the coming years. The work with productivity improvements has, among other things, resulted in a productivity increase of up to 20% in several areas of production, which has also had a positive effect on profitability. The efficiency improvements are expected to significantly improve the Group's earnings. The next phase of Danfoss Business System will be carried out in the sales organisation, where similar productivity improving programmes will be implemented. The purpose of the sales programme is to offer customers an improved and increased value-adding service as well as making the administrative element of the sales process more efficient. The sales programmes will be generated during the first half of 2005, and implementation is expected to begin during the second half of the year. Annual Report Danfoss A/S

16 Sales distributed by divisions Sales distributed by regions Annual Report Danfoss A/S

17 Group result Raw material prices Annual Report Danfoss A/S

18 Growth rates (percentage) Growth Exchange rates adjustments Growth adjusted for exchange rates Depreciations Acquisitions Organic growth Share of sales Danfoss Refrigeration & Air Conditioning Division 6% -2% 8% -1% 9% 52% Danfoss Heating Division 14% 14% 9% 5% 25% Danfoss Motion Controls Division -5% -2% -3% -11% 8% 20% Other companies 3% Danfoss Group 6% -2% 8% -3% 2% 9% 100% EBIT margin/rona Annual Report Danfoss A/S

19 Cash flows Net interest-bearing debt mill DKK Annual Report Danfoss A/S

20 SHAREHOLDERS The Bitten and Mads Clausen Foundation and the Clausen family jointly own all Class A shares issued and a number of Class B shares, equalling 99.5% of votes. Class A shares are entitled to ten votes per share (nominal value 100 DKK), and Class A shareholders have pre-emptive rights to A shares in the event of any increases in share capital. No other shares have special rights. In addition, Danfoss has about 7,200 employee shareholders, of whom about 25% are employed at companies outside Denmark. The employee shareholders and senior management own about 2% of share capital and hold about 0.5% of the votes. All employee shares are B shares and each B share is entitled to one vote per share (nominal value 100 DKK). Shareholders with more than 5% of share capital: The Bitten and Mads Clausen Foundation, Nordborg, Denmark Clausen Controls A/S, Sønderborg, Denmark Henrik Mads Clausen, Lake Forrest, USA Bente Skibsted, Lutry, Switzerland The Danfoss shares are not freely negotiable. The Bitten and Mads Clausen Foundation has the preemptive right to shares sold to individuals who are not descendants of Bitten and Mads Clausen. Should the Foundation not exercise this pre-emption right, transfers can only take place with the consent of the Board of the Bitten and Mads Clausen Foundation. Employee sharesin the spring of 2004, employees were offered the opportunity to buy shares of the company (nominal value 100 DKK) at the 2004 fixed market rate of 1,307 DKK. 110 employees took advantage of the offer and they acquired a total of about 1,850 shares. The shares can be offered for sale after the 2005 Annual General Meeting. The option to buy and sell Danfoss shares at the annually fixed market rate will be offered once a year for a limited period and in continuation of the Annual General Meeting. In the autumn of 2004, 126,466 new B shares were offered (nominal value 100 DKK) at a favourable price of DKK 600 to Danfoss employees. 3,718 employees acquired a total of 107,213 shares. Of the 3,718 employees, 2,505 were already shareholders while 1,213 were new shareholders. The shares are placed in trust for five years from January 1, 2005, which expires January 1, 2010, after which the shares can be sold. The 2004 scheme has ended. Fluctuations in market price of Danfoss shares Danske Bank fixes the market price of the Danfoss share once a year before the ordinary Annual General Meeting in April. The first employee shares were issued in 2001, and this was also the first time the market price of the shares was fixed. The calculation of the market price is based upon: Danfoss' financial development, the Group's expectations for the coming years, the ability to live up to the stated expectations, the financial development at comparable companies and their expectations for the future as well as the general developments of the stock market. The 2004 price was 1,307 DKK. Dividends and Annual General Meeting The Board proposes that the dividend for accounting year 2004 be fixed at 15%, corresponding to approx. 152m DKK (2003: 127m DKK). The dividend percentage was increased compared to 12.5% in The dividend will be paid in Danish kroner and 28% Danish dividend tax will be deducted. For shareholders outside Denmark, dividend tax will be deducted according to the joint taxation agreements that Denmark and the countries in question have entered into. The ordinary Annual General Meeting will take place on April 15, Annual Report Danfoss A/S

21 Fluctuations in market price of Danfoss shares Geographic distribution of shareholders Financial calendar Financial reports in 2005 will be published on the following dates: May 17, First quarterly report 2005 September 5, Interim report 2005 November 14, Third quarterly report 2005 Annual Report Danfoss A/S

22 CORPORATE GOVERNANCE Danfoss has a two-tier management system consisting of a Board and an Executive Committee. The Board has the overall responsibility for the company activities, while the Executive Committee is responsible for dayto-day operations. Good corporate governance is based on key words such as responsibility, integrity and openness regarding the Group's activities. It is important that the individual leader knows how to act within his or her own powers and the framework of the law. The Articles of Association of the company and a large number of procedures for internal management and control are also included in Danfoss' Corporate Governance. Annual General Meeting The Annual General Meeting has the ultimate authority in all company matters. The ordinary Annual General Meeting is held before the end of the fourth month after the end of the accounting year. All shareholders, who have requested an admission card, are allowed access to the Annual General Meeting, and can ask questions of the Board and the Executive Committee. Shareholders can send proposals for the meeting's agenda, which must arrive at the Board no later than March 1 in order to be discussed at the Annual General Meeting. Danfoss has Class A and Class B shares, of which the Class A shares are entitled to ten votes per share and the Class B shares are entitled to one vote per share. Decisions are made by an ordinary majority at the Annual General Meeting, unless otherwise stated by law or by the Danfoss Articles of Association. The Board The Board is elected at the Annual General Meeting and has the overall responsibility for company activities. The Board determines, among other things, the overall strategies and objectives and also defines the Executive Committee's guidelines for daily operations of the Group. The order of business contains a description of the allocation of tasks between the Board and the Executive Committee. Current issues are decided through simple majority at Board meetings, and in case of equality of votes the Chairman holds the deciding vote. At least five Board meetings are held each year, and one Board meetings is held in connection with a visit to one of the Group's locations. Each year, the strategy, target and perspective plan, among other things, are evaluated and updated. In 2005, the Danfoss Board will assess whether it is suitable to appoint different Board committees (such as audit committees), adapting to the international trend within board responsibilities. The Danfoss Board consists of nine members: six elected at the Annual General Meeting, three employee-elected representatives and Bitten Clausen, who is an honorary member appointed by the Board. The members elected at the Annual General Meeting are elected for one year at a time, so that all of the members elected at the Annual General Meeting are up for election at the ordinary Annual General Meeting. The employeeelected Board members are, according to Danish law, up for election every fourth year, with 2005 being an election year. Annual Report Danfoss A/S

23 The Board consists of Elected at the Annual General Meeting: Henrik E. Nyegaard (Chairman), Tom Kähler (Vice-Chairman), Jørgen M. Clausen, Peter M. Clausen, Sven Murmann and Bente Skibsted. Employee-elected: Niels Christian Jørgensen, Arno Knöpfli and Henning Wendelboe. Honorary member: Bitten Clausen. The Board members are not required to be shareholders at Danfoss, and the age limit of elected members is 70 years. Vice President Corporate Communications & Reputation Management Ole M. Daugbjerg takes the minutes of the Board. Executive Committee The Executive Committee, which consists of between two and six members, holds the day-to-day responsibility for the Group's operation and is employed by the Board. The current age limit for members of the Executive Committee is 65 years. At the end of 2004, the Executive Committee consisted of four members: President and CEO Jørgen M. Clausen, and Executive Vice Presidents Ole Steen Andersen, Niels B. Christiansen and Hans Kirk. The Executive Committee holds weekly meetings. According to the order of business, the Executive Committee must see to it that the following issues, among others, are discussed at least once a year at a Board meeting: Assessment of internal control functions, including IT security Securing of capital resources, book-keeping and property management Establishment of risk management systems, including insurance issues and currency management Review and updating of the order of business, the Corporate Governance policy and internal sets of rules Preparation of budget, three-year plans and perspectives Audit The audit safeguards the interests of the shareholders and the public. At the ordinary Annual General Meeting, an independent auditor is elected to deal with the audit tasks until the next Annual General Meeting. At the 2004 Annual General Meeting KPMG C.Jespersen was appointed corporate auditor until the next ordinary Annual General Meeting. In 2003, an agreement was entered into with KPMG C.Jespersen to attend to all of Danfoss' subsidiaries in Denmark and abroad, in addition to being the corporate auditor. The agreement is renegotiated annually. Reporting All of the Group's companies report the Annual Report and Quarterly Reports in one and the same reporting environment, securing complete transparency across all of the Group's units. The reporting is prepared according to the International Financial Reporting Standards (IFRS). The Group's Corporate Citizenship reporting takes place within the framework of UN's Global Compact. In order to minimise the Group's risks, the individual companies' reporting is reviewed by centrally located accounting controllers. At least once a year the Board approaches the internal audit environment. Vice President Corporate Communications & Reputation Management Ole M. Daugbjerg and Vice President Corporate Finance Per Have are responsible for the Danfoss Group's entire reporting. Risk management Refer to the section Financial Risk Management and insurance. Annual Report Danfoss A/S