Siemens 2010 Annual Report Download - page 286

6 To our shareholders 21 Corporate Governance 49 Combined management’s discussion and analysis
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their specific industries and responsibilities, while being con-
sistent with the overall policy established by the Managing
Board.
Increasing market fluctuations may result in significant cash-
flow and profit volatility risk for Siemens. Its worldwide operat-
ing business as well as its investment and financing activities
are affected by changes in foreign exchange rates, interest
rates, and commodity and equity prices. To optimize the allo-
cation of the financial resources across the Siemens segments
and entities, as well as to secure an optimal return for its share-
holders, Siemens identifies, analyzes and proactively manages
the associated financial market risks. The Company seeks to
manage and control these risks primarily through its regular
operating and financing activities, and uses derivative instru-
ments when deemed appropriate.
Within the various methodologies to analyze and manage risk,
Siemens implemented a system based on parametric variance-
covariance Value at Risk (VaR). The VaR methodology provides
a quantification of the market risk based on historical volatili-
ties and correlations of the different risk factors under the as-
sumptions of the parametric variance-covariance Value at Risk
model. The VaR figures are calculated based on
> historical volatilities and correlations,
> a ten day holding period and
> a . percent confidence level
for all defined financial risks.
Actual results that are included in the Consolidated Statements
of Income may differ substantially from VaR figures due to
fundamental conceptual differences. The Consolidated State-
ments of Income are prepared in accordance with IFRS. The
VaR figures result from a pure financial calculation model
which calculates a potential financial loss which does not ex-
ceed stated VaR within ten days with a probability of . per-
cent. The concept of VaR is used for internal management of
the Treasury activities.
Although VaR is an important tool for measuring market risk,
the assumptions on which the model is based rise to some
limitations including the following. A ten day holding period
assumes that it is possible to dispose of positions within this
period. This is considered to be a realistic assumption in almost
all cases but may not be the case in situations in which there
is severe market illiquidity for a prolonged period. A . per-
cent confident level does not reflect losses that may occur be-
yond this level. Even within the model used there is a . per-
cent statistical probability that losses could exceed the calcu-
lated VaR. The use of historical data as a basis for estimating
the statistic behavior of the relevant markets and finally deter-
mining the possible range of the future outcomes out of this
statistic behavior may not always cover all possible scenarios,
especially those of an exceptional nature.
Any market sensitive instruments, including equity and inter-
est bearing investments, that our Company ’s pension plans
hold are not included in the following quantitative and qualita-
tive disclosure. For additional information see Note . SFS
holds a minor trading portfolio which is subject to tight limits.
As of September , , and , respectively, it had a value
at risk (VaR) close to zero.
Foreign currency exchange rate risk
Transaction risk and currency management
Siemens’ international operations expose the Company to for-
eign-currency exchange risks, especially between the U.S.
dollar and the euro, in the ordinary course of business. The
Company employs various strategies discussed below involv-
ing the use of derivative financial instruments to mitigate or
eliminate certain of those exposures.
Foreign exchange rate fluctuations may create unwanted and
unpredictable earnings and cash flow volatility. Each Siemens
unit conducting business with international counterparties
that leads to future cash flows denominated in a currency
other than its functional currency is exposed to the risk from
changes in foreign exchange rates. Foreign currency exposure
is partly balanced by purchasing of goods, commodities and
services in the respective currencies as well as production ac-
tivities and other contributions along the value chain in the
local markets.
Operating units are prohibited from borrowing or investing in
foreign currencies on a speculative basis. Intercompany financ-
ing or investments of operating units are preferably done in
their functional currency or on a hedged basis.
Siemens has established a foreign exchange risk management
system that has an established track record for years. Each
Siemens unit is responsible for recording, assessing, monitor-
ing, reporting and hedging its foreign currency transaction
exposure. The binding guideline for Siemens Divisions and
entities provides the concept for the identification and deter-