Strategic risks particularly include risks related to the development of our sales markets in terms of demand, pricing, and the level of competition. In this category we also take into account risks arising from acquisitions and investments, product substitution, and political risks. Strategic risks have significantly declined in comparison with the previous year due to the closing of market risks in several countries.
Industry-specific risks and sales market risks
The International Monetary Fund anticipates a slight acceleration of global economic growth for 2014. However, this is subject to the industrial countries in North America and Europe continuing unabated with their efforts to resolve the debt crisis and to achieve budgetary con- solidation, and that the economic growth in Asia, particularly in China, does not sink to a level critical to global economic growth.
Economic development in the individual Group areas will continue to vary greatly in terms of mag- nitude and time frame in 2014. We perceive risks in demand and price trends in some countries and regions, especially in Eastern Europe, due to financial restrictions imposed by governments, which already led to reductions in infrastructure expenditure in 2013. Furthermore, the increase in competition, particularly through the entry of new competitors in emerging countries, represents risks for sales volumes, prices, and customer relationships. Overall, we rate this as a medium risk. The global development of demand for building materials naturally represents both an opportunity and a risk for us, and is dependent on a number of different factors. The key factors include pop- ulation growth and the increasing need for housing, economic growth, growing industrialisation and urbanisation, and the increased need for infrastructure. Demand for building materials is essentially divided into three sectors: private residential construction, commercial construction, and public construction.
Demand in private residential construction depends on factors such as access to affordable loans, the trend in house prices, and the available household income, which is in turn influenced by addi- tional parameters such as the rate of unemployment or inflation. The development of these factors and thus the demand in this sector is mostly subject to country-specific risks and uncertainties. In the USA, the bursting of the property bubble led to a high excess of houses and apartments and a corresponding price collapse. The housing market in the United States recovered significantly in 2013. Sales volumes, the number of construction starts, and house prices have risen, as have lending rates. The continuing recovery of this market is subject to uncertainties and depends, among other things, on the further development of interest rates. In Asia, there is a risk that rising cost of living could negatively impact the revenue available for construction projects and thereby also the investments in private residential construction. In China, there still remain risks from speculations in urban residential property. Although the steps taken by the government and central bank to combat overheating in the booming property market have so far been successful, the situation must still be monitored very carefully.
The utilisation of production facilities, office spaces, and storage areas is crucial in determining the level of demand in commercial construction, and in turn depends on the general order situation both at home and abroad. As a result of the economic crisis, the vacancy rate of office and indus- trial spaces is still marked in some countries, such as in the USA. While this sector has begun the recovery process, its extent and time span is uncertain. Intensified budgetary consolidation or increasing interest rates resulting from rising inflation pressure could have a negative effect on economic growth and the future demand for building materials.
Investments in infrastructure such as roads, railways, airports, and waterways fall into the public construction sector. The demand in this sector depends on national budgets and the implemen- tation of special infrastructure funding programmes. Risks exist insofar as countries could cut back on their infrastructure investments in order to consolidate their budgets. Noticeable growth
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in result from state-funded projects will only be seen with a time lag. The scope of the cutbacks and their effects on the demand for building materials cannot be predicted with absolute certainty. Building materials are characterised by heavy weight in relation to the sales price and are thus not transported overland for long distances. Excess cement volumes are traded by sea on a regional level as well as between individual continents. If the difference in the price level between two countries, with connection to the sea trade, is so high that it exceeds the transportation costs, there is a danger of increased import pressure and thus of a price drop in the importing market. A major industry-specific risk is the weather-related sales risk for building materials, which is mainly due to the seasonal nature of demand. Harsh winters with extremely low temperatures or high precipitation impact construction activity and have a negative effect on the demand for building materials. In addition to the winter weather, monsoons in some Group countries, such as India, are another example of the seasonal weather conditions that adversely affect the sales volumes of our products and thus our business results.
We counteract weather-related fluctuations in sales volumes and risks from trends in sales markets with regional diversification, increased customer focus, the development of special products, and, to the extent possible, with operational measures: for example, we adjust the production level to the demand situation and use flexible working time models. In 2013, we reorganised our activities in Spain as a result of the sharp downturn in the construction industry, and a number of locations were temporarily or permanently closed.
In order to further improve relationships with our customers and to respond to country-specific needs, HeidelbergCement carries out customer surveys across the Group and expands research and development operations at Group level. A continuous transfer of knowledge between our locations, which is systematically supported and promoted by the employees of our technical centers – HTC (cement and binders) and CCM (aggregates) – working at various locations across the Group, ensures that synergy effects are utilised as effectively as possible.
Our expectations regarding the future development of the industry and our sales markets are presented in the Outlook chapter on page 102 f.
Risks from acquisitions and investments
Capacity expansions from acquisitions and investments ensure opportunities, but also risks. Possible risks in the case of acquisitions arise from the integration of employees, processes, technologies, and products. These also include cultural and language barriers in the growing markets as well as a generally increased level of personnel turnover in Asia, which leads to an outflow of valuable knowledge. We counteract these risks by targeted personnel development and an integrative corporate culture, including the creation of local management structures.
Acquisitions can affect the net debt to equity ratio and financing structure and lead to increases in fixed assets, including goodwill. In particular, impairments of goodwill due to unforeseen business trends can lead to financial burdens.
Investment projects can span several years from the planning phase to completion. In this process, there are particular risks when it comes to obtaining the necessary permission for mining raw
materials or developing infrastructure, including connecting to energy and road networks, as well as risks concerning the requirements for subsequent use plans for quarrying sites.
In the case of future acquisitions, partnerships, and investments, there is a risk that political re- strictions may only allow them to be implemented under complicated conditions or may prevent them at all. A resulting shortage in capacity expansion projects could affect the growth pros- pects of HeidelbergCement. In order to minimise financial burdens and risks and better exploit opportunities, we look for suitable partners, particularly in politically unstable regions.
HeidelbergCement constantly monitors the market environment with respect to embarking on suitable acquisition projects or partnerships. In addition, market potential and raw material de- posits are also systematically analysed and turned into proposals for investment projects. We place very high return requirements on every acquisition or investment decision, which are explained in the Internal management control and indicators section on page 41 f. Significant investment and acquisition projects are also subject to subsequent checks. We have many years of experience in integrating companies and have already created the necessary processes and structures. The cement industry is building up its capacities in the markets of Eastern Europe, Asia, and Africa in order to benefit from the rising domestic demand. HeidelbergCement is likewise pursuing a capacity expansion programme and is focusing on local markets with exceptional growth potential. In 2013, we put into operation new clinker and cement capacities in central India, as well as a new cement mill in Liberia. The commissioning of additional cement capacities in Indonesia, Kazakhstan, Togo, Tanzania, Ghana, and Burkina Faso is planned for 2014. Competitors are also building up new capacities in these regions to some extent. If the capacity increases in the markets in which we operate exceed the growth in demand, there is a risk of price collapse, which has negative effects on revenue and operating income. Prior to capacity expansion projects, HeidelbergCement reviews both the market environment and the market potential and responds to excess capacities with cost-saving and efficiency improvement programmes, capacity adjustments, and location enhancements. Overall, we consider the risks from acquisitions and investments as a low risk.
Risks resulting from the substitution of products
Cement, sand, gravel, and hard rock are the basic raw materials for the construction of houses, industrial facilities, and infrastructure throughout the world. The use of cement-like binders can
be traced back to Roman times. Because cement is highly energy- and CO2-intensive, research
projects are being undertaken to develop alternative binders with a more favourable energy and climate footprint.
Employees of the Heidelberg Technology Center (HTC) are closely monitoring the development of alternative binders and are actively exploring this area. However, because the current state of knowledge regarding alternative binders is not sufficient for the stringent requirements relating to the processability, durability, and cost-effective production of the binders, we generally do not anticipate that the alternative binders currently being developed will replace traditional cement types on a large scale in the next few years. If the production costs for traditional binders increase dramatically, particularly in mature markets, e.g. as a result of further shortages of government-
issued CO2 emission certificates or significant increases in energy prices, alternative binders could
replace traditional binders provided that they fulfil all the aforementioned requirements. However, since this is currently not forseeable, the risk is not included in our risk reporting.
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Political risks and risks arising from exceptional external incidents
As is the case for all companies, potential turmoil in a political, legal, or social context poses fundamental risks for us, too. HeidelbergCement operates in more than 40 countries around the world and is therefore also exposed to political risks such as nationalisation, prohibition of capital transfer, terrorism, war, and unrest. At a number of locations, we cannot rule out certain security risks because of internal political circumstances. In isolated cases, cement prices are subject to government regulation, e.g. in Togo. There may also be government intervention in production control, such as the temporary decommissioning orders in China. Overall, we consider this as a low risk.
Exceptional external incidents, such as natural disasters or pandemics, could also negatively impact our business performance. Appropriate compensation limits of our Group-wide property insurance programme guarantee comprehensive coverage against natural disasters, including earthquakes, for our activities in heavily endangered regions of North America and Asia.