CRISIS AT SIEMENS - JUST HOW BAD IS IT?

UNCLAS SECTION 01 OF 03 MUNICH 000196

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TAGS: ECON ETRD PGOV EINV PREL EUN GM
SUBJECT: CRISIS AT SIEMENS - JUST HOW BAD IS IT?

REF: Berlin 46

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SUMMARY
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1. Manufacturing giant Siemens, a household name in Germany and in
much of the world, has become embroiled in a recent string of
scandals ranging from "outsourced" job losses to accusations of
bribery of customers and unions that have tarnished the firm's
reputation. Even before the March 27 arrest of a senior executive,
some began to speculate that at least some of the multiple
investigations of the firm might ultimately lead to the office of
CEO Klaus Kleinfeld, who has blamed the corruption charges on rogue
employees. Regardless of Kleinfeld's direct involvement or
knowledge of any wrong-doing, he has his work cut out for him as he
presides over a once-proud symbol of German technological might now
badly in need of an ethical makeover.

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SIEMENS: THE "GE" OF GERMANY
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2. Munich-based Siemens, one of the world's largest electrical
engineering and electronics companies, is effectively the "General
Electric" of Germany, both in terms of its corporate profile, but
also in terms of its iconic name, which appears on everything from
light bulbs and dishwashers to laptop computers and train
locomotives. Founded 160 years ago, the company has approximately
475,000 employees in over 190 countries, including over 66,000 in
the U.S. In fiscal 2006, Siemens had sales of Euro 87.33 billion
(USD 116.6 billion) and net income of Euro 3.03 billion (USD 4.1
billion). Its U.S. sales amounted to roughly Euro 17.38 billion
(USD 23.2 billion).

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BEN-Q - OUTSOURCING JOB LOSSES
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3. Siemens current round of troubles began in September 2006, when
Munich-based BenQ Mobile announced it would file for bankruptcy,
with the potential loss of 3,000 jobs in Germany. The German
cell-phone handset unit of Taiwan-based BenQ had just a year earlier
been "sold" by Siemens to BenQ for one Euro -- although Siemens
sweetened the deal by paying BenQ Euro 413 million ($552 million) to
take the money-losing division off its hands. The widespread
perception of the BenQ affair was that Siemens, under the direction
of new cost-cutting CEO Klaus Kleinfeld, had effectively
"outsourced" the shuttering of the handset division and firing of
its workers to BenQ, in order to avoid the complications and
negative publicity that would come to Siemens had it directly closed
the division. The criticism came nonetheless, but now with the
added accusation that Siemens had paid the Taiwanese to do its dirty
work.


4. Even Chancellor Merkel got into the act; during her address
commemorating the 2006 Day of German Unity, she reminded Siemens of
its special responsibility for the 3,000 BenQ staff who were about
to lose their jobs. She said: "In this respect, a traditional
[German] company must show responsibility for its former staff.
This responsibility must be observed now. By doing this, Siemens
could strengthen confidence in the social market economy." As a
result of the heavy criticism leveled at the company, Siemens
announced that it would set up a special fund with 35 million Euros
($47 million) to assist workers impacted by the BenQ bankruptcy.

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WE HAVE SLUSH FUNDS FOR TELECOM...
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5. Just as it appeared Siemens had mitigated the damage from BenQ,
on November 15 some 200 police, attorneys, and tax authority
investigators raided about 30 offices and homes of current and
former Siemens employees, including the offices of management board
members and CEO Kleinfeld, seizing 36,000 documents. Police
arrested half a dozen people -- including a former Siemens
management-board member and a former chief financial officer of the
telecom unit. The investigation was initiated when banks in
Austria, Switzerland and Italy detected a slush fund of Euro 20 to
30 million ($27-40 million),which the banks suspected were used for
money laundering. Authorities suspect the money was used for paying
bribes, via sham consulting contracts, to secure contracts related
to the Olympic Games in Athens 2004 as well as for telecommunication
projects in Saudi-Arabia, Kuwait, Egypt, Indonesia, Russia and
Vietnam. By December, Siemens disclosed to authorities that it had
uncovered Euro 420 million ($545 million) in suspicious transactions
stretching back more than seven years.

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6. Not only did Siemens allegedly pay bribes, but it also
apparently paid out additional money in some instances to cover up
the bribes. A former Siemens telecommunications equipment executive
allegedly helped broker a $50 million settlement in 2004 with a
Saudi consulting firm that had threatened to forward documents to
U.S. authorities detailing bribes paid on Siemens' behalf, according
to press accounts of former telecom unit finance chief Michael
Kutschenreuter's statements to prosecutors. Following his arrest in
November, Kutschenreuter reportedly told prosecutors that top
management -- including CEO Kleinfeld and predecessor Heinrich von
Pierer -- were informed of the payment, which he described as "hush
money."

7. Kutschenreuter also reportedly told prosecutors about an
encryption code he alleged was widely used at Siemens to itemize
bribe payments. He said it was derived from the phrase "Make
Profit," with the phrase's 10 letters corresponding to the numbers
1-2-3-4-5-6-7-8-9-0. Allegedly the code was used to convey the
amount of a bribe to be paid - for example, with A standing for 2
and I for 9 and P for 5, a reference to "file this in the AIP file"
meant a bribe was authorized at 2.95 percent of a contract's value.
A spokesman for Siemens said it had no knowledge of a "Make Profit"
encryption system. German Authorities continue to investigate the
bribery scandal at the telecom division. Additionally, the U.S.
Department of Justice is investigating "possible criminal violations
of U.S. law by Siemens" in the matter, while the enforcement
division of the Securities and Exchange Commission is conducting an
"informal inquiry" into the allegations of wrongdoing.
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...AND SLUSH FUNDS FOR POWER GENERATION TOO
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8. In a separate case involving bribery by Siemens power-generation
unit, a former Siemens AG executive told a German court on March 13
that he had authorized millions of dollars in bribes to win supply
contracts with Italian utility Enel SpA, but claimed he didn't break
any laws. Andreas Kley, the former finance chief of Siemens's power
generation equipment unit, and another former employee face charges
they paid roughly Euro 6 million ($7.9 million) in bribes between
1999 and 2002 to help a consortium led by Siemens win gas turbine
supply contracts with Enel valued at Euro 450 million ($601
million). Siemens could be hit with a new round of fines if the
court rules that illegal payments were made on its behalf.

9. Kley, who left Siemens in 2004, said Enel officials approached
Siemens for bribes and that he agreed to make the payments from a
special fund he controlled for "discretionary payments." In the
Enel case, the money allegedly was transferred through companies in
Liechtenstein, Dubai and Abu Dhabi before being channeled into bank
accounts in Switzerland and Liechtenstein. Kley said the payments
weren't illegal, because the bribed Enel officials didn't fall
within the legal definition of civil servants. Instead, he said, he
regarded them as representatives of a private-sector company. While
Germany broadened its anticorruption laws in 2002, allowing
prosecutors to charge people who bribe private-sector officials
abroad, the law can't be applied to the Enel case, because it took
place before the law was enacted.
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SLUSH FUNDS FOR BUYING UNIONS
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10. At the same time Siemens was allegedly paying bribes to
influence customers abroad, it is also alleged to have been secretly
funding a Siemens-friendly union at home. On March 27, following
raids on several Siemens offices, German prosecutors arrested
Johannes Feldmayer, a member of the Siemens management board and the
company's second-highest-paid official after Kleinfeld. Feldmayer
is accused of transferring about Euro 34 million ($45.4 million),to
Wilhelm Schelsky, recently jailed for tax-evasion.

11. Allegedly, Feldmayer approved the payments to a consulting firm
run by Schelsky, which were then funneled to the Siemens-friendly
union also headed by Schelsky, the Association of Independent
Employees (AUB),as a counterweight to the powerful IG Metall union,
which claimed that AUB sometimes blocked its positions in labor
talks. The IG Metall labor union announced April 2 that it would
press charges against Siemens for breaking German law by trying to
influence labor through bribes. This action would be especially
threatening for Siemens's management because IG Metall officials and
its members hold nearly half the seats on the company's supervisory
board (board of directors),which has the power to decide the fate
of individual executives.

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CEO KLIENFELD: SIEMENS TO BE MODEL OF TRANSPARENCY
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12. In other separate, on-going investigations, U.S., French and
German authorities are looking into whether Siemens officials bribed
Saddam Hussein's regime to secure contracts under the UN's
Oil-for-Food program. Additionally, on January 24, the European

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Commission imposed a Euro 423 million ($565 million) penalty on
Siemens for price fixing among providers of gas-insulated
electric-power switchgear. However, until the arrest of Feldmayer,
the top officials of Siemens had remained relatively free of blame
for the string of scandals at the company. CEO Klaus Kleinfeld, who
prosecutors have so far said is only a witness and not a suspect,
has blamed the various corruption charges on "rogue" employees.


13. Ironically, the day before Feldmayer's arrest, Kleinfeld
appeared at the "13th International Conference on Competition" in
Munich, where he gave a speech to government regulators, including
U.S. Federal Trade Commission Chairman Deborah Majoras. In his
remarks, Kleinfeld said that coming to the conference felt like
"climbing into the lion's den" given the firm's recent negative
publicity. He reiterated to the audience that Siemens had a zero
tolerance for illegal behavior and pointed to the company's efforts
to deal with the scandals, including its cooperation with
authorities, as well as its hiring its own auditors and
investigators. Furthermore, he predicted that Siemens would
ultimately be admired for its efforts and would be seen as a
benchmark for transparency.

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COMMENT
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14. While Siemens reputation in Germany has not sunk to the level
of an Enron or Tyco yet, the damage cannot be understated, as the
symbol of "Germany Inc." has now become fair game for editorial
cartoonists and television comedians. Siemens remains profitable
and its stock price stable -- what's more difficult to gauge is the
currency of the firm's "good name." Even without further
high-profile arrests, potential customers and shareholders have to
view a potential relationship with Siemens somewhat more cautiously
than before. As for Kleinfeld himself -- he continues to maintain
that he is both innocent and unaware of wrongdoing. However, given
the breadth of alleged corruption at Siemens, the CEO's claim of
ignorance of a pervasive culture of corruption is almost as
unsettling as the thought of his direct involvement in it.



15. This report has been coordinated with Embassy Berlin.


16. Previous reporting from Munich is available on our SIPRNET
website at www.state.sgov.gov/p/eur/munich/ .

GUY