During 2012, we continued to deliver power and automation solutions that help our customers meet the challenges of a rapidly-changing world. Foremost among these are climate change and the need to use electrical energy more efficiently and with less impact on the environment. We addressed the challenges in several ways, as described below.
One is a long-term commitment to technology leadership in areas such as high-efficiency power transmission; automation and control systems to manage complex industrial processes using less energy; and technologies to capture the full potential of renewable energies, such as wind and solar power. In 2012, for example, we developed the world’s first circuit breaker for high voltage direct current (HVDC). The breakthrough removes a 100-year-old barrier to the development of direct current (DC) transmission grids, which will facilitate the efficient integration and exchange of renewable energy. DC grids will also improve grid reliability and enhance the capability of existing alternating current (AC) networks. We also continued to develop new products that allow our industrial customers to use their production assets more efficiently, such as our new synchronous reluctance motor, miniature circuit breakers and laser-cutting robots.
Another is our presence in more than 100 countries around the world. This allows us to meet the needs of our customers faster and with solutions that are better suited to their local requirements. It positions us to benefit from the rapid growth expected in the emerging markets in the coming years while also supporting our large and important markets in the world’s mature economies. In 2012, we took significant actions to adjust our geographic and portfolio balance, especially with the acquisition of Thomas & Betts to further build our position in the large and growing North American market. Furthermore, our geographic scope provides us with access to a large pool of talented and highly qualified people from very diverse cultural and business backgrounds – a key competitive advantage. In 2012, we generated approximately half of our revenues from emerging markets. In addition, we recorded order increases of more than 10 percent in local currencies in large markets such as Brazil, Canada, the United States, Saudi Arabia and the United Kingdom.
A third way is our ability to combine both power and automation technologies into packaged solutions that meet the needs of new growth sectors, such as integrating renewable energy into existing power grids, providing high-efficiency power and automation solutions to the global rail and marine transportation industries, and providing the infrastructure needed to rapidly charge electric vehicles. For example, in 2012 we embarked on a project to bring clean solar energy to South Africa through two photovoltaic power plants equipped with ABB inverters, specialized transformers and control software. Other key orders in 2012 included rail development projects in Brazil, India and Poland, fuel-efficient propulsion and control systems for large cruise vessels, and an order to provide a national electric vehicle charging network in Estonia. We view this convergence of power and automation technologies as a long-term trend for which ABB is well positioned.
Economic uncertainties continued in 2012, especially on increasing concerns surrounding sovereign debt levels in Europe and the United States, rising inflation in some emerging economies and signs of economic slowdown in most regions. However, the broad scope of our business portfolio helped us mitigate some of these developments. For example, growth initiatives in Discrete Automation and Motion and in Low Voltage Products helped to offset early cycle weakness in these divisions. At the same time, we could build on our strong position in the later-cycle upstream oil and gas and minerals sectors to drive solid order growth in Process Automation. In 2012, we stabilized Power Products margins despite the challenging market environment through successful cost savings and productivity improvement measures as well as our ability to be more selective in the orders we take, thanks to our broad product and geographic scope. In December 2012, we announced the repositioning of our Power Systems division to focus on higher-margin products, systems, services and software activities, together with revised targets for that division. Our strong positions in fast-growing emerging markets and selected mature markets, our flexible global production base and technological leadership, as well as the operational improvements we continue to make in our businesses, also supported our business in 2012.
Foremost among these improvements was the successful reduction of costs to adapt to changing demand. Savings in 2012 amounted to more than $1 billion and were principally achieved in three areas: making better use of global sourcing opportunities; eliminating operational and process inefficiencies; and optimizing our global footprint to match the geographic scope of our business with changing demand patterns, such as rapid growth in emerging markets. Our cost reduction program was key to maintaining profitability in a challenging environment.
In November 2011, we announced an updated strategy for the period 2011 to 2015, along with financial targets to measure our success in achieving them. The strategy is based on five priorities:
- Drive competitiveness in our current markets by developing, producing, sourcing and selling to better match market needs, thereby profitably growing the business while increasing productivity and quality.
- Capitalize on megatrends, such as the growing need for resource and energy efficiency, increasing urbanization, electrification, digitization and growth in emerging economies.
- Expand our core businesses to secure the next level of growth, for example, growing the service business by tapping opportunities in our installed base and by building the software business for our core power and automation customers.
- Execute a disciplined approach to value-creating acquisitions that close key gaps across product, end market and geographic lines.
- Find and exploit disruptive opportunities, such as the application of direct current electricity solutions to improve power efficiency and performance compared to conventional alternating current technologies.
In addition, we provided updated financial targets at the Group and divisional levels to measure our performance. Also in 2011, we modified our previous Group operational profitability target to Operational EBITDA as a percentage of operational revenues (Operational EBITDA margin) versus the previous measure of earnings before interest and taxes (EBIT) as a percentage of revenues (EBIT margin) – for a full definition see “Performance measures”. We believe this more accurately reflects the operational performance of the company during a phase of growth through acquisitions by eliminating some of the non-cash effects on earnings from acquisitions.
Furthermore, we introduced a new target measure of cash return on invested capital (CROI) that we believe provides a more accurate reflection of our operational performance by focusing on cash returns, which are less prone to non-operational accounting adjustments that may be applied to EBIT from time to time. CROI is defined as the total of net cash provided by operating activities and interest paid, as a percentage of capital invested. Capital invested is defined as the total of fixed assets, net working capital and accumulated depreciation and amortization.
Our long-term growth drivers – such as the need for greater industrial productivity, more reliable and efficient power delivery and growth in renewables – remain in place. Shorter-term trends such as industrial production growth and government policy are expected to be the main determinants of demand in 2013.
In a market environment in which near-term uncertainty is likely to remain, we will continue to focus on executing our large order backlog and taking advantage of our broad product and geographic scope to capture profitable growth opportunities in line with our 2011–2015 targets.
This will be supported by our ongoing initiatives to improve margins and project selection and execution. Growing service revenues, securing the synergies from recent acquisitions, increasing customer satisfaction and successfully commercializing our pipeline of innovative technologies will remain important contributors to our growth and profitability targets.
We will continue to strive for a 3–5 percent improvement in cost of sales every year through cost savings and productivity improvements such as supply management, better quality and higher returns on investments in sales and research and development. We remain committed to paying a steadily rising, sustainable annual dividend over time and improving returns on our capital investments in both organic and inorganic growth.