Notes

General

Basis of preparation

The accompanying consolidated financial statements of KSB AG, Frankenthal, Germany, were prepared in accordance with the International Financial Reporting Standards (IFRSs) as adopted by the EU and the additional requirements of German commercial law under section 315a(1) of the HGB [Handelsgesetzbuch – German Commercial Code]. We applied the Framework, as well as all Standards and the Interpretations issued by the International Financial Reporting Interpretations Committee (IFRIC) in force at the reporting date. For the purposes of this document, the term IFRSs includes applicable International Accounting Standards (IASs).

KSB AG is a public limited company [Aktiengesellschaft] under Germany law. The company is registered with the Handelsregister [Commercial Register] of the Amtsgericht [Local Court] Ludwigshafen am Rhein, registration No. HR B 21016, and has its registered office in Frankenthal / Pfalz, Germany.

The consolidated financial statements were prepared on a going concern basis in accordance with IAS 1.25.

The accompanying consolidated financial statements were approved for issue by the Board of Management on 14 March 2011 and are expected to be approved by the Supervisory Board on 29 March 2011.

The consolidated financial statements are published in the electronic Bundesanzeiger [German Federal Gazette].

The financial year of the companies consolidated is the calendar year.

All material items of the balance sheet and the income statement are presented separately and explained in these Notes.

The income statement has been prepared using the nature of expense method.

First-time application of new and revised standards

The following new Interpretations and revised Standards issued by the International Accounting Standards Board (IASB) were required to be applied for the first time in financial year 2010:

  • IAS 27 Consolidated and Separate Financial Statements
  • IAS 39 Financial Instruments: Recognition and Measurement
  • IFRS 1 First-time Adoption of International Financial Reporting Standards
  • IFRS 2 Share-based Payment
  • IFRS 3 Business Combinations
  • IFRS 5 Non-current Assets Held for Sale and Discontinued Operations (Annual Improvement Project 2008)
  • IFRIC 12 Service Concession Arrangements
  • IFRIC 15 Agreements for the Construction of Real Estate
  • IFRIC 16 Hedges of a Net Investment in a Foreign Operation
  • IFRIC 17 Distributions of Non-cash Assets to Owners and Individual Components of IAS 10 Events after the Reporting Period as well as IFRS 5 Non-current Assets Held for Sale and Discontinued Operations
  • IFRIC 18 Transfers of Assets from Customers
  • Annual Improvements [April 2009]

As a matter of principle, we have not voluntarily applied the following new and revised Standards and Interpretations prior to their effective dates:

  • IAS 24 Related Party Disclosures
    (for reporting periods beginning on or after 1 January 2011)
    This Standard provides for exemption from disclosure of information in the Notes if the cost of complying with the disclosure requirement would outweigh the benefits of the disclosures to users of the financial statements.
  • IAS 32 Financial Instruments: Presentation (for reporting periods beginning on or after 1 February 2011)
    The amendments relate to the clarification of the classification of subscription rights as a liability or as equity.
  • IFRS 1 First-time Adoption of International Financial Reporting Standards in conjunction with IFRS 7 Financial Instruments: Disclosures
  • Annual Improvements [May 2010] (for reporting periods beginning on or after 1 January 2011)
    The amendments relate to six Standards and one Interpretation.
  • IFRIC 14 IAS 19 – The Limit on a Defined Benefit Asset, Minimum Funding Requirements and their Interaction (from 1 January 2011) The amendments relate to entities with minimum funding requirements within the framework of accounting for pension plans.
  • IFRIC 19 Extinguishing Financial Liabilities with Equity Instruments (for reporting periods beginning on or after 1 July 2010). This document provides assistance in the interpretation of the IASs/IFRSs. This document provides assistance in the interpretation of the IASs/IFRSs.

Based on our current state of knowledge, application of the above Standards and Interpretations would not have any material impact on our consolidated financial statements.

Basis of consolidation

Consolidated Group

In addition to KSB AG, 6 German and 52 foreign companies (previous year: 4 German and 48 foreign companies) were fully consolidated. We hold a majority interest in the voting power of these companies, either directly or indirectly, or we have the power to appoint the majority of the members of the companies’ management. No companies are currently accounted for using the equity method or proportionately consolidated.

We included the following companies for the first time in the consolidated financial statements effective 1 January 2010:

  • KAGEMA Industrieausrüstungen GmbH, Pattensen (Germany)
  • KSB Armaturen Verwaltungs- und Beteiligungs-GmbH, Frankenthal (Germany)
  • KSB OOO, Moscow (Russia)
  • KSB Lindflaten AS, Lysaker (Norway)
  • KSB Service Italia S.r.l., Scorzè (Italy)
  • KSB Pumps Inc., Mississauga / Ontario (Canada)

The changes in the consolidated Group described above contributed around 1 % or € 0.8 million to consolidated earnings. Further effects on the consolidated financial statements are presented in the relevant tables (for example, in the additional column titled “31 Dec. 2009 (adjusted)” included in the balance sheet) and explained in the information provided on individual items.

The carrying amounts of the companies’ assets and liabilities acquired and included in the consolidated financial statements for the first time almost completely matched their fair value. Purchase price allocation, based on the data at the time of acquisition, only resulted in differences amounting to € 239 thousand. These were above all attributable to the measurement of customer base and orders in hand.

Overall, as in the previous year, we had to make no payments for successive acquisitions of consolidated companies in the year under review. € 12,906 thousand (previous year: € 7,144 thousand) was spent on companies that have not yet been consolidated because this would not have had a material impact. This amount resulted mainly from an increase in the interest held in an Italian motor manufacturing firm, a newly formed company in the Americas and the acquisition of shares in relatively small companies in Europe.

In light of our new Group strategy which, among other things, involves merging the numerous small companies to form larger legal entities, in 2009 we began initiating appropriate corporate changes. In this context, further companies that have not yet been consolidated will be included in the consolidated Group over the course of the next few years.

Consolidation methods

Capital consolidation uses the purchase method of accounting, under which the acquisition cost of the parent’s shares in the subsidiaries is eliminated against the equity attributable to the parent at the date of acquisition. Any goodwill arising from initial consolidation is accounted for in accordance with IFRS 3 in conjunction with IASs 36 and 38. It is measured at the relevant current closing rate, presented in intangible assets and tested for impairment at least once a year. An impairment loss is recognised if any impairment is identified.

Any excess of our interest in the fair values of net assets acquired over cost is recognised directly in profit or loss.

Those shares of subsidiaries’ equity not attributable to KSB AG are reported as non-controlling interest.

All intercompany receivables, liabilities, provisions and contingent liabilities, as well as sales revenue, other income and expenses, are eliminated. Intercompany profits contained in inventories and fixed assets are also eliminated.

The financial statements of all material companies or those required to be audited under local law have been audited and independent auditors’ reports have been issued. This audit also extended to the correct reconciliation of the financial statements prepared under local GAAP to the uniform Group IFRS accounting policies.

Currency translation

The consolidated financial statements have been prepared in euros (€). Amounts in this report are presented in thousands of euros (€ thousands) using standard commercial rounding rules.

Transactions denominated in foreign currencies are translated at the individual companies at the rate prevailing when the transaction is initially recognised. Monetary assets and liabilities are subsequently measured at the closing rate. Currency translation gains and losses are recognised in profit or loss.

Financial statements of consolidated companies that are not prepared in euros are translated using the functional currency principle. These companies are financially, economically and organisationally independent (“foreign entities”). Assets and liabilities are translated at the closing rate; the income statement accounts are translated at average exchange rates for the year. The resulting effects are presented directly in equity.

Gains and losses from the translation of items of assets and liabilities compared with their translation in the previous year are taken directly to equity.

The exchange rates of our most important currencies to one euro are:

Accounting policies

The accounting policies have generally not changed as against the previous year and apply to all companies included in the consolidated financial statements.

In addition to the above-mentioned changes to the consolidated Group, we have made adjustments versus the prior-year presentation of disclosures of advance payments on inventories and, in part, for PoC contracts. We now disclose these advance payments as a component of liabilities, whereas in the previous year they were presented as part of “Inventories” or “Receivables and other current assets”. The effects are described in these Notes in the section on “Liabilities”. For reasons of comparability, the prior-year values of the relevant items were adjusted in the tables presented in the sections on “Inventories”, “Receivables and other current assets” and Liabilities.

Acquisition cost

In addition to the purchase price, acquisition cost includes attributable incidental costs (except for costs associated with the acquisition of a company) and subsequent expenditure. Purchase price reductions are deducted from cost. Should borrowing costs pursuant to IAS 23 arise, these will be capitalised from 2009 onwards. As in the previous year, no borrowing costs were incurred in the financial year.

Production cost

In addition to direct material and labour costs, production cost includes production-related administrative expenses. General administrative expenses and selling expenses are not capitalised. Should borrowing costs pursuant to IAS 23 arise, these will be capitalised from 2009 onwards. As in the previous year, no borrowing costs were incurred in the financial year.

Financial instruments

Financial assets and financial liabilities are recognised in the consolidated balance sheet at the time when KSB becomes a party to a financial instrument and when at least one party has fulfilled the agreement. When the contractual right to payments from financial assets expires, these are derecognised. Financial liabilities are derecognised at the time when the contractual obligations are settled or cancelled or have expired. Regular way purchases and sales of financial instruments are recognised at their value at the settlement date; only derivatives are recognised at their value at the trade date. This applies to so-called primary financial instruments such as trade receivables and monetary receivables, as well as to trade payables and financial liabilities (from or to third parties as well as intragroup and associate companies).

Derivatives, which we use to hedge against foreign currency and interest rate risks, are also financial instruments.

Classification in measurement categories:

  • Financial Assets Held for Trading (FAHfT) / Financial Liabilities Held for Trading (FLHfT): Financial assets and liabilities held for trading and measured at fair value through profit or loss (derivatives not included in hedging relationships)
  • Loans and Receivables (LaR): Loans and receivables (loans and primary financial instruments not quoted in an active market)
  • Available for Sale (AfS): Available-for-sale financial instruments (non-derivative financial instruments that are not allocated to any other measurement category, such as investments in non-consolidated affiliates or securities)
  • Financial Liabilities Measured at Amortised Cost (FLAC): Financial liabilities measured at amortised cost using the effective interest method (liabilities that are not quoted in an active market, such as trade payables)

None of our financial instruments are classified as “held-to-maturity investments”.

Financial instruments are measured at fair value on initial recognition. Subsequent measurement is generally based on fair value. Subsequent measurement of loans and receivables is based on amortised cost using the effective interest method. We do not currently make use of the fair value option. Fair values are based on market prices determined at the reporting date that are obtained from recognised external sources.

Changes in the fair value of “available-for-sale financial assets” are recognised directly in equity. They are recognised in profit or loss when the assets are sold or determined to be impaired.

As in the previous year, we did not make any reclassifications between the individual measurement categories.

Intangible assets

Intangible assets are generally carried at cost and reduced by straight-line amortisation. The underlying useful lives are two to five years.

Write-downs are charged for impairment if the recoverable amount is lower than the carrying amount. If the reasons for an impairment loss charged in a previous period no longer apply, the impairment loss is reversed (write-up).

We amortised goodwill originating between 1 January 1995 and 30 March 2004 over a maximum of 15 years. In accordance with IFRS 3, the resulting cumulative amortisation was eliminated against historical cost effective 1 January 2005. Goodwill has been tested for impairment at least once a year since 2005; it is not amortised any longer. This impairment test relates to the “cash-generating units”, which at KSB are the legal entities. Write-downs are charged for impairment if the recoverable amount is lower than the carrying amount. Goodwill originating up to and including 1994 has been deducted from revenue reserves. Negative goodwill originating prior to 30 March 2004 was eliminated against revenue reserves directly in equity. Any excess of our interest in the fair values of net assets acquired over cost arising after 30 March 2004 is recognised directly in profit or loss.

When calculating goodwill we apply purchase price allocations and determine the fair value of the assets and liabilities acquired. In addition to the assets and liabilities already recognised by the selling party, we also assess marketing-related aspects (primarily brands, competitive restrictions), customer-related aspects (primarily customer lists, customer relations, orders on hand), contract-related aspects (mainly particularly advantageous service, work, purchasing and employment contracts) as well as technology-related aspects (primarily patents, know-how and databases). To determine values we primarily apply the residual value method, the excess earnings method and cost-oriented procedures.

Development costs are capitalised as intangible assets at cost and reduced by straight-line amortisation where the criteria described in IAS 38 are met. Research costs are expensed as incurred. Where research and development costs cannot be reliably distinguished within a project, no costs are capitalised.

Property, plant and equipment

Property, plant and equipment is carried at cost and reduced by straight-line depreciation. No tax-motivated depreciation is recognised. Write-downs are charged for impairment if the recoverable amount is lower than the carrying amount. If the reasons for an impairment loss charged in a previous period no longer apply, the impairment loss is reversed (write-up).

We have applied the component approach under IAS 16.

Depending on the relevant item, government grants relating to property, plant and equipment are deducted from the assets concerned or transferred to an adjustment item on the liabilities side. This adjustment item is reversed over a defined utilisation period. As far as government grants recognised which are to be held for specific periods of time are concerned, we expect that these periods will be complied with.

Maintenance expenses are recognised as an expense in the period in which they are incurred, unless they lead to the expansion or material improvement of the asset concerned.

The following useful lives are applied:

Leases

Lease payments that are payable under operating leases are recognised as expenses in the period in which they are incurred. In the case of finance leases, the leased asset is recognised at the time of inception of the lease at the lower of fair value and the present value of future minimum lease payments. A liability is recognised in the same amount for the future lease payment. The asset‘s carrying amount is reduced by depreciation over its useful life or the shorter lease term.

Non-current financial assets

Investments in unconsolidated affiliates and associates are carried at fair value. Interest-bearing loans are recognised at amortised cost.

Non-current financial assets are measured at cost if their fair value cannot be reliably determined because they are not traded in an active market.

Inventories

Inventories are carried at the lower of cost and net realisable value. Cost is measured using the weighted average method. Write-downs to the net realisable value take account of the inventory risks resulting from slow-moving goods or impaired marketability. This also applies to write-downs to fair value if the selling price is lower than production cost plus costs still to be incurred. If the reasons for an impairment loss charged in a previous period no longer apply, the impairment loss is reversed.

Advances received from customers are recognised as current liabilities.

Construction contracts under IAS 11

The percentage of completion (PoC) method is applied for construction contracts defined under IAS 11. The stage of completion of contracts is determined on the basis of the proportion that contract costs (without indirect material costs) incurred for work performed up to the reporting date bear to the estimated total contract costs (without indirect material costs) at the reporting date. The percentage contract revenue less the related advances received from customers is reported – depending on the balance – in receivables and other current assets or in current liabilities. Effects in the period are recognised in the income statement as part of sales revenue. The gross amount due to customers for contract work is included in other provisions.

Receivables and other current assets

For subsequent measurement, receivables and other current assets that are classified as loans and receivables (LaR) are recognised at amortised cost. Low-interest or non-interest-bearing receivables are discounted. In addition, we take account of identifiable risks by charging specific write-downs and experience-based write-downs using allowance accounts. If the reasons for an impairment loss charged in a previous period no longer apply, the impairment loss is reversed.

We hedge part of the credit risk exposure of our receivables (for further explanations, refer to the Financial Risks – Credit Risk section).

The prepaid expenses reported relate to accrued expenditure prior to the reporting date that will only be classified as an expense after the reporting date.

Financial instruments

Financial instruments are carried at their fair values at the reporting date.

Cash and cash equivalents

Cash and cash equivalents (cash, bank balances and short-term deposits) are recognised at amortised cost.

Deferred taxes

We account for deferred taxes using the balance sheet liability method on the basis of the enacted or substantively enacted local tax rates. This means that deferred tax assets and liabilities generally arise when the tax base of assets and liabilities differs from their carrying amount in the IFRS financial statements, and this leads to future tax expense or income. We also recognise deferred tax assets from tax loss carryforwards in those cases where it is more likely than not that there will be sufficient taxable profit available in the near future against which these tax loss carryforwards can be utilised. Deferred taxes are also recognised for consolidation adjustments. Deferred taxes are not discounted. Deferred tax assets and liabilities are always offset where they relate to the same tax authority.

Provisions for pensions and similar obligations

Provisions for pensions and similar obligations are calculated on the basis of actuarial reports. They are based on defined benefit pension plans. The reports are prepared using the projected unit credit method. We apply the 10 % corridor rule, under which actuarial gains and losses that are 10 % greater or lower than the present value of the DBO (defined benefit obligation) are recognised over the average remaining working lives. The actuarial demographic assumptions and the definition of compensation and pension trends, as well as interest rate trends, are best estimates. The interest component is reported as an interest cost in financial income / expense.

KSB companies that use a defined contribution pension plan do not recognise provisions. The premium payments are recognised directly in the income statement as pension costs in the staff costs. These companies have no obligations other than the obligation to pay premiums.

Other provisions

A provision is recognised only if a past event results in a present legal or constructive external obligation that the company has no realistic alternative to settling, where settlement of this obligation is expected to result in an outflow of resources embodying economic benefits, and the amount of the obligation can be estimated reliably. No provisions are recognised for future internal expenses. The amount recognised as a provision is our best estimate. Any recourse or reimbursement claims are recognised separately and are not deducted from the provisions concerned.

Provisions for restructurings are recognised only if the criteria set out in IAS 37 are met.

Non-current provisions are discounted if the effects are material.

Liabilities

Liabilities classified as financial liabilities measured at amortised cost (FLAC) are recognised at amortised cost using the effective interest method.

Derivative financial instruments

We only use derivatives for hedging purposes. We hedge both existing recognised underlyings and future cash flows (cash flow hedges) against foreign currency and interest rate risks. The hedging instruments used are exclusively highly effective currency forwards, currency options and interest rate derivatives entered into with prime-rated banks. We hedge currency risks primarily for items in US dollars (USD). Interest rate risks are minimised through long-term borrowings at variable rates of interest. Group guidelines govern the use of these instruments. These transactions are also subject to continuous risk monitoring.

Fair value changes of currency derivatives used to hedge an existing recognised underlying are recognised in profit or loss, as are changes in the fair value of the related hedged items.

In the case of cash flow hedges, changes in the fair value of currency derivatives are taken directly to equity until the related hedged item is recognised.

Fair value changes of interest rate derivatives used to hedge against interest rate risks in liabilities are recognised directly in equity.

The carrying amounts equal fair value and are determined on the basis of market prices. Fair values may be positive or negative. Fair value is the amount that we would receive or have to pay at the reporting date to settle the financial instrument. This amount is determined using the relevant exchange rates, interest rates and counterparty credit ratings at the reporting date.

There was no material hedge ineffectiveness that would have been required to be reported.

Derivatives are reported under other receivables and other current assets, and under miscellaneous other liabilities and deferred income.

The maturities of the currency derivatives used are mostly between one and two years, and those of interest rate derivatives are between six and ten years. The maturities of the hedging instruments are matched to the period in which the forecasted transactions are expected to occur. In the year under review, almost all hedged forecasted transactions occurred as expected.

Contingent liabilities (contingencies and commitments)

Contingent liabilities, which are not recognised, are possible obligations that arise from past events and whose existence will be confirmed only by the occurrence or non-occurrence of uncertain future events. Contingent liabilities may also be present obligations that arise from past events where it is possible but not probable that there will be an outflow of resources embodying economic benefits.

Contingent liabilities correspond to the extent of liability at the reporting date.

Income and expenses

Sales revenue consists of charges for deliveries and services billed to customers, and licence income. Sales allowances reduce sales revenue. Sales revenue is recognised when the deliveries have been effected or the services have been rendered and the significant risks of ownership have been transferred to the buyer. Effects resulting from application of the percentage of completion method are also recognised in the sales revenue.

Expenses are recognised when they are incurred or when the services are utilised.

Estimates and assumptions

Preparation of consolidated financial statements in accordance with IFRSs requires management to make estimates and assumptions that affect the accounting policies to be applied. When implementing such accounting policies, estimates and assumptions affect the assets, liabilities, income and expenses recognised in the consolidated financial statements, and their presentation. These estimates and assumptions are based on past experience and a variety of other factors deemed appropriate under the circumstances. Actual amounts may differ from these estimates and assumptions. We continuously review the estimates and assumptions that we apply. If more recent information and additional knowledge are available, recognised amounts are adjusted to reflect the new circumstances. Any changes in estimates and assumptions that result in material differences are explained separately.

Maturities

Maturities of up to one year are classified as current.

Assets that can only be realised after more than 12 months, as well as liabilities that only become due after more than 12 months, are also classified as current if they are attributable to the operating cycle defined in IAS 1.

Assets and liabilities not classified as current are non-current.