Speech by Gerard Kleisterlee at AGM 2010 - English version

Spoken word takes precedence

March 25, 2010

Ladies and Gentlemen,


I would also like to bid you a warm welcome to this annual general meeting. When we met here a year ago I expressed the expectation that, on the basis of our starting position, we would come through the period of crisis that lay ahead and if possible emerge from it stronger than before. Today, looking back on a year of unprecedented worldwide economic recession, I can say that we did so convincingly. As such, 2009 was a successful year for Philips, a year in which our strategy proved its robustness in markedly changing economic conditions, in which we were able to strengthen our market positions and strongly improve our results across a broad front. It was a year in which, thanks to our sound financial policy, we were able to continue with targeted investments in the future. And also a year in which a lot was asked of us and our workforce and in which, thanks to good internal communication and cooperation, motivation remained high. Today, Philips is a stronger, simpler and more agile company with leading positions in important and highly promising markets in health and well-being. Allow me to take a closer look at this.


Our Vision 2010 strategy to build a leading position in Health & Well-being has resulted in a portfolio of businesses that is well balanced both geographically and by sector. This has made us less vulnerable to a downturn in a particular sector or part of the world. For example, we were able to cushion the effects of the weakness of the US health market, though this did prevent Healthcare from developing into our largest sector. We now hope, therefore, that the recent healthcare legislation will contribute to renewed growth in this market, which is important to us.


I would like to illustrate further this increased resilience that now characterizes Philips. In the second half of 2008, when the crisis was beginning to take hold, our sales initially showed a considerable decline because of consumer hesitancy, while the professional market for lighting was holding its own and Healthcare was growing. Then, however, the deep worldwide economic recession also impacted the professional lighting market, so that by mid-2009 our sales were nearly 20% down on the level of 2008. Because of our flexible cost structure, notably in Lifestyle, and the prompt measures that had already been taken in 2008 to adjust the fixed costs of the whole Group, the effect on profitability was limited and in the fourth quarter of 2009 we were in fact able to raise profitability to a new record level.


Our strategy, aimed at achieving a leading position in Health & Well-being, builds on a number of fundamental trends in the world. And crisis or no crisis, these fundamental trends are still very much in evidence or are even being reinforced by the crisis. A higher life expectancy of the population. The aim of affordable, good-quality healthcare. The emergence of empowered consumers taking responsibility for their own health and well-being. The move towards a sustainable society. The strong growth of emerging markets. All of this will provide Philips with growth opportunities if, in the spirit of our brand promise of “sense and simplicity”, we deliver meaningful, simple solutions that improve people’s lives.


One of Philips’ strong points is our position in emerging markets. The importance of countries like China and India for worldwide growth can scarcely be over-estimated. We are in a good position to benefit from the growing purchasing power in such countries. In 2009, emerging markets again accounted for 30% of our sales, though the sales mix has shifted towards the more profitable part of our portfolio, with strong growth in Healthcare. Our long-term presence and our marketing investments in countries such as China, India and Brazil are translating into a strong Philips brand awareness in these regions.


The increased emphasis on sustainability also ties in perfectly with our Health & Well-being strategy and is therefore an additional driver of profitable growth. Respect for people and the environment is in our DNA at Philips, and today this finds expression in solutions that improve healthcare and keep it affordable, in energy-efficient lighting and in green products that perform better than their competitors or predecessors in terms of energy and the environment. We are enjoying such success with our EcoVision4 sustainability program that we have been able to set higher targets and have now launched EcoVision5.


And then there is the simple fact that today we already occupy leading positions in many of the areas in which we operate. In order to grow profitably, we shall have to further extend and strengthen our leadership positions. Whoever is number one in the market usually gains the most trust and can demand better prices. That is why a leadership position usually translates into better margins and stronger growth. As you can see, Philips is already the leader in quite a number of markets, be they global or regional. But we would be happy to see a few more pictures on this slide!


There is only one way to achieve that, and that is by focusing on what the user, the consumer, wants. We want to tie customers to us. We do that by anticipating their needs, by sharing our insights with them, thoroughly and at an early stage, and thereby offering the right products and solutions. We measure our progress in the field of customer loyalty in a simple way, by using the Net Promoter Score. The NPS measures answers to a simple question: “Would you recommend us to a friend or colleague?” In comparison with our competitors, our Net Promoter Score shows that in 2009 we generated more than 60% of our sales in areas where we have a leading market position.


Let us now look at our financial results in 2009 and see how this performance validates our strategy. As you know, we were operating in a somewhat unusual economic climate last year. None of us have seen markets contract so rapidly and economic conditions worsen so dramatically fast. Against that background it is not surprising, therefore, that the figure for comparable sales was down on the figure for 2008, even though a decline of 11% is slightly worse than we had hoped. However, after the second quarter we witnessed a gradual improvement and in the last quarter of 2009 comparable sales were back at the level of 2008. Despite the lower sales, our operating income – EBITA – at more than one billion euros, or 4.5% of sales, and our cash flow were significantly better than in 2008.

There were clear differences according to sector in 2009, but in view of the conditions all three sectors performed well. While comparable sales in our Healthcare sector fell only slightly, we were hit particularly hard in Consumer Lifestyle and Lighting. Healthcare compensated for a decline in sales in the United States with substantial growth in emerging markets. Healthcare’s profitability stood up well; in the last quarter of 2009 the clean EBITA margin was as high as 20%. Consumer Lifestyle successfully gave priority to margin rather than sales and improved the quality of sales through active portfolio management. The sector was also able to achieve a strong improvement in the profitability of the Television business in spite of the adverse market conditions. Lighting was badly affected by the decline in the construction and automotive sectors, but early restructuring programs enabled it to quickly restore profitability to a more than respectable level.


The improvement in our results as the year progressed was mainly due to our quick and resolute response to the recession. We had already started in 2008 to reduce our costs in the light of the lower sales that were expected. The result of this became clearly visible in the second half of 2009. In total, the cost reductions made in 2008 and 2009 will, in 2010, yield us savings of more than 700 million euros on an annual basis compared with 2008. And these are not once-only savings, but permanent ones. To give you an idea of the sharp increase in Philips’ underlying profitability: if we disregard special items like restructuring charges, our margin last year was 6.4%. This clean EBITA margin also showed a gradual improvement from one quarter to the next, and in the fourth quarter came to an excellent 12.3%, a performance which is unmatched with our present portfolio and which unmistakably demonstrates our present resilience. These results, notably in difficult times, are for me perhaps the most compelling evidence that our strategy is working in practical terms.


In 2009 we also continued to apply all our energies to realizing our strategic objective of becoming a leading global player in Health & Well-being. We did so by continuing to make targeted investments – in innovation, in green products, in our brand, and in acquisitions with attractive potential for value creation. In this way we strengthened our relevance to our customers and consolidated our leadership positions in key markets. In view of our financial and strategic strength, we are confident that Philips can continue the upward trend in 2010, provided that the economic situation does not worsen again.


Not least in my review of 2009 I would like to mention our employees, from whom we certainly asked – and received – a lot in the past year. In a year of widespread changes and uncertain economic conditions, their commitment to Philips and their motivation remained at a high level. The Employee Engagement score for Philips as a whole was 68 for the year 2009, which is only a fraction lower than the previous year and still much higher than in 2007 and the preceding years. What is even more important is that our employees are appreciably more positive about their managers, as expressed in the Leadership Index, which was 4 percentage points higher than in the previous year. Their engagement is probably best expressed by the fact that the highest score in the whole survey was obtained for the response to the statement: “I feel part of a team”. But there are also definite areas for improvement: too many people at Philips are of the opinion that we do not reward good performances sufficiently and that at the same time we do not deal effectively enough with under-performers. There is clearly room for improvement here.


If we compare last year’s results with the 2009 Management Agenda we can be reasonably satisfied.

Under the heading Drive Performance we have fulfilled our objectives. We reduced our working capital, adjusted our cost structure and increased our cash flow. Given the severe economic climate, we achieved a very respectable EBITA. Our productivity grew by 5.6% in spite of the decline in sales. We struck a good balance between risks and opportunities. On the one hand, we handled our healthy balance sheet carefully and concentrated on cash flow. On the other hand, we made a number of acquisitions, strengthened our footprint in emerging markets and continued to invest in our brand and in innovation, our engines of future profit.


As regards Accelerate Change, our focus on what users and customers want found expression in a marked improvement in our Net Promoter Score. As I said, our Employee Engagement Index fell slightly, but at the same time it is encouraging that the index remained at a high level in a year that was extremely hard for our employees. Furthermore, in all three sectors we carried out programs that reduced our cost base, simplified our structure and enhanced the effectiveness of our organization.


In the last column, Implement Strategy, it is evident that our focus on managing the recession did not come at the expense of working on our strategic objectives. As I have already said, we continued to invest in our brand, in innovation, in design and in emerging markets, even though we grew less rapidly in the emerging markets than we would have wished. We made a number of small but important acquisitions. The take-over of Saeco has made us the leader in the attractive growth market for espresso coffee machines, and the integration of this acquisition is progressing well.


Our results in 2009, in combination with the Group’s financial position, give us sufficient confidence in the future to propose to you that the dividend for 2010 be maintained at 70 euro cents per share. This year we are offering you a choice between a dividend in cash or in shares.


Each year we compare our Total Shareholder Return for the last three years with that of this peer group. As you can see, we are in ninth place, within touching distance of number 8. Needless to say, we are not satisfied with this. Here too, you can see that we have made good progress in the past year and stood in third place in 2009. We perceive a growing appreciation of our company in the financial markets and this is reflected in our relatively strong share price over the past twelve months. Measured as of the end of last week we are as high as second place in this group over the last twelve months and we shall do all we can to maintain this upward trend in the coming period.


In this context I would like to take this opportunity to give you, our shareholders, a further insight into the remuneration policy at Philips in general, and in particular for our senior executives. I should stress that I am talking here about the remuneration of executives below the Board of Management.


From a Dutch perspective it is important to realize that our workforce is very international and that more than 85% of our 116,000 employees work outside the Netherlands. For the overwhelming majority of them the conditions of employment are of course related to the situation in the local labor market. However, for the top 5%, i.e. just under 5,000 people, the nature of their jobs and the composition of the workforce mean that the labor market is an international one, with considerable international mobility, and therefore they also have an internationally orientated remuneration package. In the course of the years an increasingly large portion of the remuneration for many employees, and certainly the aforementioned group, has become variable.


The principle underlying annual performance-related variable remuneration is that payment is dependent on the results achieved in relation to pre-set targets. Payment can be appreciably higher or lower than the on-target percentage of 100% and in the ideal case therefore moves up or down with the performance of the company and the individual. In the composition of the total remuneration package it is assumed that targets are ambitious, but also realistic, so that over a series of years an average payment of 100% is achieved for the variable remuneration.


In line with international practice, this variable portion is appreciably larger for the higher levels in the organization than for other employees. They can and of course should have a greater and more direct influence on the company’s performance. From this slide you can see that for the top-level executives more than 50% of the income is variable. When results are good, this leads to a higher income, whereas when results are less good, employees will earn less and costs will therefore also be lower.


As I have already illustrated, the results for 2009 are certainly more than satisfactory, and set against the pre-set targets this has led to variable remuneration of just over 100% for our executives. Looking back at the past five years on this graph, you can see how this has varied in relation to the degree to which pre-set targets were achieved or not. The realization of the variable remuneration, at less than 90% on average, is well below the pursued norm for the total remuneration package.


I would now like to conclude my review of 2009 and focus attention on the future. Philips is pursuing a stable course. Many of the themes in the 2009 Management Agenda can therefore be found in the Management Agenda for 2010. We have kept the same threefold division: Drive Performance, Accelerate Change and Implement Strategy. As regards Drive Performance, this year we are again placing the emphasis on growth, while remaining focused on controlling costs and working capital. Now that our margins are increasingly at a good level, we want to concentrate more on sales growth and on increasing our market share. I shall take a closer look at this in a moment when I discuss the third column.


Under Accelerate Change, the central points in 2010, as in 2009, are customer focus and employee engagement. We have to make the customer and user even more central to everything we do: research, product development, design, marketing and sales. That is an essential precondition for sustainable and healthy growth. We are therefore striving this year to increase the number of market segments in which we are at the top with our Net Promoter Score. At the same time we shall work hard on improving our Employee Engagement score.


As regards Implement Strategy, we continue to concentrate on the familiar tasks of becoming a global leader in Health & Well-being by further strengthening our position in emerging markets and leveraging sustainability as an integral part of our strategy and an additional driver of growth.


In addition, under Implement Strategy we have this year defined a number of key initiatives per sector, and I would like to go through these with you in more detail.


Our Healthcare sector has become an activity with sales of nearly eight billion euros and is therefore a player of global stature. We are active in several businesses, from Imaging Systems to Healthcare Informatics, but in a balanced way. As I said, in our Management Agenda 2010 we have set a clear priority to move up from third to second position in the market. We will achieve this by, for instance, launching innovative products across the various segments and focusing even more on emerging markets. And by expanding Home Healthcare, a business with an intrinsically high growth potential in which we wish to be the global market leader, we are shaping what we think will be a significant part of the whole industry’s future. An excellent Dutch development in this context is the recent five-year agreement between Philips and Achmea to work together on developing innovative home healthcare solutions for the chronically ill. I am convinced that our Healthcare sector can look forward to an excellent future.


Consumer Lifestyle was, is and remains an important activity for Philips. In fact, with over one-third of our sales and a large number of propositions that play a key role in our Health & Well-being strategy, parts of the sector will only become more important. In 2009, for example, we saw – despite the recession – continued growth in our Consumer Health & Wellness activities, and it goes without saying that this is one of our priorities for future growth. We strengthened our position in coffee-making by integrating Saeco, the Italian maker of espresso machines. Here too, we see potential for above-average growth. A further aim is to make the Television activities within Consumer Lifestyle profitable for the year as a whole and to increase this profitability going forward. As you know, we are on the right track in this regard as these activities were profitable again in the fourth quarter of 2009 as a result of the many steps we took to structurally turn the tide in our TV business. For Consumer Lifestyle too we see good opportunities to further expand our position in emerging markets through new consumer products, e.g. to address problems such as the lack of clean drinking water.


Our third sector is Lighting, a sector that is very much in transition. The playing field in the lighting industry is changing fundamentally as a consequence of the emergence of LED technology and the need to significantly reduce energy consumption throughout the world. Thanks to the investments we have made in recent years, we are excellently positioned to play a leading role in these changes and to remain a leader in the industry. The priority is to strengthen our position in the market for outdoor lighting solutions and to be the leader in this market. At the same time we see good opportunities for growth in the home lighting market for consumers, and we want to realize that growth through, for instance, the introduction of new innovative LED solutions for consumers. Finally, as I mentioned, it is important to maximize the profitability of Lighting’s conventional activities, i.e. those not based on LED. All in all, we believe that we can extend our current leadership in the lighting industry to a position that delivers above-average growth and profitability.


To sum up, we can say that in the past year Philips has come through the economic recession well and is on course strategically. We have shown that we are a resilient company, simpler and more flexible than in the past. Philips has proved that it knows how to respond to a recession. With our focus on Health & Well-being we shall benefit in the coming years from significant and far-reaching trends. This gives us confidence that this year we will again make good progress in further improving our financial performance. While there is still limited visibility as regards the second half of the year, I am happy to be able to tell you that we have got off to a very good start in terms of business performance. This is due in particular to our Lighting sector and a strong contribution from all our businesses in most emerging markets. This underlines once again that we are well on course with the implementation of our strategy to make Philips a leader in Health & Well-being.


Thank you, ladies and gentlemen, for your attention.