E CONOMICS, EXCLUSIVELY FOR ACADEMIC PURPOSES.T HIS REPORT WAS SUPERVISED BYR OSÁRIOA NDRÉ WHO REVIEWED THE

THIS REPORT WAS PREPARED BY LARA SOUHOKA, MASTER IN FINANCE STUDENT OF THE NOVA SCHOOL OF BUSINESS AND ECONOMICS, EXCLUSIVELY FOR ACADEMIC PURPOSES. THIS REPORT WAS SUPERVISED BY ROSÁRIO ANDRÉ WHO REVIEWED THE

VALUATION METHODOLOGY AND THE FINANCIAL MODEL. (SEE DISCLOSURES AND DISCLAIMERS AT END OF DOCUMENT)

See more information at WWW.NOVASBE.PT Page 1/37

M

ASTERS IN

F

INANCE

E

QUITY

R

ESEARCH

 Focus on EUR 140bn HealthTech business: Philips is successfully implementing its strategy to reposition is business towards Medical Technology, integrating its Healthcare and Consumer Lifestyle business.

 Lights out for Philips Lighting: Following the discontinuation of its LumiLEDs and Automotive Lightinb business, Philips is selling its remaining lighting business, valued at ~EUR 6.5bn, in the first half of 2016, hereby reshaping its business to

Medical Technology completely.

 Philips is well positioned across segments, among which its market leading positions in Image Guided Therapy (32%), Oral Health and Sleep & Respiratory Care (36%).

 Healthcare IT will connect the dots: Although the current Healthcare IT portfolio collects data from patients, Philips is increasingly working towards developing products that can access information from its consumer base, providing connectivity between consumer appliances.

 Regardless of the recent slowdown in China, we believe

‘Growth markets’ sales will pick up across segments in FY2016.

 Based on a DCF valuation approach, we reach a target price of EUR 44.38for 2016 year-end. According to our valuation, we believe the company is currently undervalued, as the market

fails to price in Philips’ full potential.

Company description

Philips is a Dutch consumer technology firm with global operations in the healthcare, consumer electronics and lighting segments. The company, headquartered in Amsterdam, was founded 124 years in Eindhoven as a lighting company.

R

OYAL

P

HILIPS

C

OMPANY

R

EPORT

M

EDICAL

T

ECHNOLOGY

8

J

2016

S

TUDENT

:

L

ARA

S

OUHOKA

22768@novasbe.pt

Repositioning to MedTech

...leveraging consumer knowledge in a the ever

connected and digitalized market environment

Recommendation: BUY

Price Target FY16: 44.38 €

Price (as of 9-Jan-16) 22.48 €

Bloomberg: PHIA:NA Equity

52-week range (€) 21.23-25.14

Market Cap (€m) EUR 24bn

Outstanding Shares (m) 952.491 Source: Bloomberg

Company vs PSI20

0 50 100 150 200

01-01-08 01-03-08 30-04-08 29-06-08 PSI20 Company

Source:

in EUR million 2014 2015E 2016F

Revenues 21.391 22.659 18.861 EBITDA 1.050 1.472 1.225

NOPLAT 436 623 449

Net Profit 411,0 608,4 544,7 Net Debt 2231 1289 -4590

EPS 0,45 0,68 0,61

ROYAL PHILIPS COMPANY REPORT

PAGE 2/37

Table of Contents

Company description ...

Fout! Bladwijzer niet gedefinieerd.

Company description ... 3

Shareholder structure ... 3

Business divisions... 4

Healthcare ... 4

Consumer Lifestyle ... 14

Lighting ... 16

IG&S ... 19

The HealthTech restructuring ...20

The Lighting sale ...23

Valuation ...27

Main drivers ... 27

WACC assumptions ... 30

Scenario analysis ... 31

Multiples valuation ... 33

Financials ... 3

Appendix ...35

ROYAL PHILIPS COMPANY REPORT

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Company description

Philips (EUR 21bn sales FY2014) is a Dutch consumer technology firm with global operations in the healthcare, consumer electronics and lighting segments. The company, headquartered in Amsterdam, was founded 124 years ago (1891) by Gerard and Frederik Philips in Eindhoven as a lighting company.Philips employs approximately 106,000 people worldwide, with the largest proportion working at the Healthcare division (37% of total employees), followed by the Lighting (33%) and Consumer Lifestyle divisions (15%). Philips operates in five geographical market clusters, being Western Europe (26% FY2014 sales), North America (31%), Growth Geographies (35%) and Other Mature geographies1 (8%).

The Company has been differentiating itself from its competitors by being a innovator in its respective markets. Philips was the first company introducing

the ‘radio recorder’ (or boom box), a combination of a portable radio and a

cassette recorder. This device later evolved into the C-cassette (1970-1980), the first mass storage device used for personal computers. In addition, Philips

launched the world’s first home video cassette recorder, and in the 21st century the LED light bulb. Nowadays, Philips is the largest Lighting company in the world, and has leading positions across its businesses, on which we will elaborate further along this research.

In 2014, Philips announced its plans to reposition itself as a Health Technology company. This means the Company will establish two stand-alone companies, hereby selling Lighting division and combining the Healthcare and Consumer Lifestyle division into one. The reasons for this decision, we believe, is the increasing complexity of these businesses, and the differences in growth profiles. By focusing solely on the Health Tech market, we think Philips will have a competitive advantage to its largest peers such as GE and Siemens, and will be able to improve margins. We will elaborate more on the rationale of this restructuring further along in our research.

Prior to announcing its plans, Philips started selling off large chunks of its business, among which its audio, video and multimedia business (Lifestyle Entertainment) for EUR 135m to US-based Gibson Brands. The LE portfolio was rather small, consisting of audio sets, headphones, speakers, and dockingstation. We believe the sale of LE was a good move for several reasons. Firstly, LE was showing 3 consecutive years of sales decline, as

1 _{Other Mature Geographies consists of Australia & New Zealand, South Korea and Japan, whereas all other geographies fall in the Growth Geographies.} 0

5.000 10.000 15.000 20.000 25.000 30.000

Exhibit 1: Group sales per segment

Healthcare Consumer Lifestyle Lighting IG&S

in EUR

m

Source: Company data, NOVA Research Team estimates

0 5.000 10.000 15.000 20.000 25.000

2010 2011 2012 2013 2014 Exhibit 2: Sales per

geography

Growth Other mature

North America Western Europe in EUR

m

ROYAL PHILIPS COMPANY REPORT

PAGE 4/37

illustrated in exhibit 3. We believe the reason for the decreasing sales was the change in consumer interest, as they were moving away from CD/DVD players towards online entertainment. Secondly, although Philips does not report margins per sub-segment, we believe the LE segment was pressuring Consumer Lifestyle margins: whereas Consumer Lifestyle EBIT margin was 9.3% in both 2012 and 2013, EBIT margin increased to 11% in 2014, when LE activities were sold off. Lastly, Philips had already planned to start focussing on the Health & Wellness segment in 2013. Therefore, we believe the decision to sell fit the corporate strategy.

We believe the deal itself was not a good one, particularly. The selling price of EUR 135m implied a EV/Sales2 multiple of only 0.08, indicating that the business was worth significantly less than its revenues. Initially, the sale of the LE business was announced in 2013, and was to be closed for EUR 150m with Japanese Funai Electric. Investors responded positively on the day of the announcement, as Philips shares showed a 2.6% capital gain, and further rising to 5.3% the next day. However, this deal was cancelled by Philips, as Funai allegedly did not meet contractual obligations. We believe it was a good decision to sell the division after all (although at a discount to the precious EUR 150m), as shareholders responded positively

initially. Shareholders’ reaction was moderate, as Philips stock did not move

significantly3 upon announcement.

Following the discontinuation of its LumiLEDS and Automotive Lighting business, Philips will sell its remaining lighting business (valued at ~EUR 6.5bn) in the first half of 2016, hereby completely reshaping its business into a Med Tech company. We will evaluate this restructuring and provide our insights further along this research.

Shareholder structure

Philips, incorporated in 2000, is primarily listed on the Euronext exchange in Amsterdam and is a member of the Euro Stoxx 50 index. Next to its primary listing on the AEX (PHIA), the Company has a secondary listing on the New York Stock Exchange (PHG). Although the majority of Philips’ shares are traded on the AEX, the percentage of European (48%) shareholders versus North American (46%) shareholders is only slightly higher. Whereas the vast majority of shares (94.1%) are free-floating common stock, Philips holds 20m

3 _{28/04/2014: Open EUR 23.28, close EUR22.98, 29/04/2014: Open EUR 23.01, close EUR 23.28}

8.467 8.906

5.823 5.953

10,2%

-2,1%

-23% -14%

-30,0% -20,0% -10,0% 0,0% 10,0% 20,0%

0 2.000 4.000 6.000 8.000 10.000

2009 2010 2011 2012 Exhibit 3: Lifestyle Entertainment sales

Consumer Lifestyle

of which Lifestyle Entertainment % growth LE sales

in EUR

m

ROYAL PHILIPS COMPANY REPORT

PAGE 5/37

32%

24% 15%

4% 25%

Exhibit 5: Shareholders by style 2015

Value Growth Index Yield Other

source: Company data, Analyst Research

shares in treasury, among which 17m shares meant cover long-term incentive and employee stock plans. There are 10 institutional shareholders with a stake of over 1%, together owning 22.55% of Philips’ equity. The largest shareholders4 are Dodge & Cox (3.31%), SouthEastern Asset Management (3.25%), Harris Associates (2.95%), State Street Global Advisors (2.89%), the Vanguard Group (1.92%) and BlackRock Fund Advisors (1.91%). Dodge & Cox reduced its previous ownership in their Industrials holdings, (including Philips, down from a 5.89% holding) as

“returns from holdings in the Industrials sector hurt performance”. BlackRock Fund Advisors on the contrary entered its position (18.2m shares) in July

2015, indicating the firm’s expecting that the restructuring will impact Philips shares positively.

As illustrated by exhibit 5, the majority of Philips’ shareholders are value investors.5 This implies that at least 30% of Philips shareholders support our theory that, based on fundamental analysis, the company is worth more than is perceived by the market, and is therefore undervalued.

SouthEastern Asset Management for example, Philips’ second largest shareholder, focuses on “high-conviction investing in strong businesses with good people and deeply discounted prices”.

Another reason that makes Philips an attractive investment is because of its dividend policy of a 40% to 50% pay-out, giving shareholders the opportunity to choose between a cash and share dividend. One could argue that a high pay-out ratio indicates that Philips cannot find growth opportunities to invest in, however we believe the contrary is true. Philips has been expanding its business by acquiring a variety of business across segments. Next to acquiring relatively small players across its businesses every year, Philips has done large acquisitions such as Respironics (~EUR 3.6bn, 2007), Volcano (~EUR 1bn, 2015) and Genlyte (~EUR 1.89bn, 2007) to grow its business.

On September 17 2013, Philips announced a new EUR 1.5bn share repurchase program. The repurchase program started in October 2013 and was completed for 41% by the end of 2014. As a result of the repurchase program and the issuance of over 18m shares (due to the elective dividend),

Philips’ share capital decreased with 3m shares to 935m common shares in 2014. The share repurchase should be finished completely in 2016, having decreased its shares outstanding to approximately 900m.

4

Philips Institutional shareholders: FT Research , Bloomberg, Morningstar

5

Value investors actively seek stocks of companies that they believe the market has undervalued, based on fundamental analysis. 10 15 20 25 30 35 100 200 300 400 500 600 1 -J a n -09 1 -J u n -09 1 -N o v -09 1 -Ap r-10 1 -Se p -10 1 -F e b -11 1 -J u l-11 1 -D e c -11 1 -M a y -12 1 -O c t-12 1 -M a r-13 1 -Au g -13 1 -J a n -14 1 -J u n -14 1 -N o v -14 1 -Ap r-15 1 -Se p -15

Exhibit 4: PHIA stock vs AEX index

AEX Index PHIA NA Equity

in EUR

Returns 2010 2011 2012 2013 2014

Philips 10,83% -28,97% 22,21% 33,93% -9,36%

AEX 5,74% -11,87% 9,68% 17,24% 5,64%

3,31% 3,25% 2,95% 2,89% 1,92% 1,91% 6,27%

0,00% 2,00% 4,00% 6,00% 8,00% Exhibit 6: Main institutional

shareholders

Other Blackrock

Vanguard Grou State Street Global Harris Southeastern Dodge & Cox

ROYAL PHILIPS COMPANY REPORT

PAGE 6/37

1.000 3.000 5.000 7.000 9.000 11.000 13.000

Exhibit 7: Healthcare sales per geography

Western Europe Other Mature North America Growth Geographies

in EUR

m

Source: Company data, Analyst Estimates

20,3%

19,0% 17,7% 21,2%

11,9% 10,7%

1,1%

10,3% 13,7%

5,0% 0,0%

5,0% 10,0% 15,0% 20,0% 25,0%

2010A 2011A 2012A 2013A 2014A

Exhibit 9: Healthcare margins

% EBITDA margin % EBITA margin % EBIT margin

Source: Company data

Business divisions

Healthcare

The Healthcare division is generating the majority of Philips’ group sales, with EUR 9.2bn of revenues in 2014 (43% of FY2014 sales). The division is divided into four sub-segments, each focusing on specific areas in the medical devices market; Imaging systems, Patient Care & Monitoring Solutions, Healthcare Informatics, and Customer Services. Whereas we will describe the activities per sub-segment briefly in this section, we will provide an in-depth analysis of the potential growth areas further along in this report.

The evolution of sales per geography is illustrated in exhibit 8. Although North America has been the biggest market for Healthcare, the portion of sales coming from the US decreased from 48.2% to 42.2% over the past ten years (2004-2014). We believe the latter is largely due to the rise of emerging markets, which generated only 14% of sales in 2004, but now make up 25% of healthcare sales. We believe the slowdown of the Chinese economy will partly offset the percentage of sales coming from growth geographies in 2015, however we foresee an increase from 2017 onwards (+26.5%).

Exhibit 9 illustrates that Healthcare EBITDA margins have been ranging around 20%, except for 2014 when EBITDA margin dropped to 11.9%. This sudden decrease was mainly due to restructuring and acquisition related charges of EUR 70m, whereas these charges were basically zero in 2013. In addition, the EUR 366m litigation charges due to a patent related lawsuit6 brought 2014 EBITDA further down.

EBIT margins however have fluctuated over the past years. Especially 2011 was a challenging year, due to an increasingly difficult economic environment. Although improvements were realized in almost all segments, these improvements were more than offset by higher than

Masimo litigation, patent infringement, 2014 lawsuit

48,18% 42,4%

0,00% 10,00% 20,00% 30,00% 40,00% 50,00%

2004 2006 2008 2010 2012 2014

Exhibit 8: Increasing % of sales coming from growth geographies

Growth geographies Other Mature North America Western Europe

in %

ROYAL PHILIPS COMPANY REPORT

PAGE 7/37

expected selling costs and R&D investments in the Imaging business.7 In 2014 margins appeared to have decreased significantly, due to one-off litigation and restructuring costs mentioned previously. Therefore, the adjusted EBIT margin decreased significantly less (5% v.s 10.1%) compared to 2013).

In the overall Healthcare universe, Philips’ closest peers are GE Healthcare (~ EUR 16bn FY2014) and Siemens Healthcare (EUR 12.2bn FY2014). GE Healthcare consists of the Healthcare Systems, Life Science, Healthcare IT and Other business units. It is active in the majority of Philips’ businesses, except for Sleep & Respiratory Care, and has an additional business in Pharmaceuticals (Life Science), which is the reason for the higher amount of sales for GE. Comparable to Philips, GE’s largest market is the U.S (46%), followed by Growth regions (31%) and Europe (19%). Siemens

Healthcare distinguishes its business in Clinical Products, Diagnostics,

Customer Solutions and Audiology Business. The Audiology business is unique to Siemens, as neither Philips nor GE are active in this business. Comparable to Philips and GE, Siemens generates its largest proportion of sales in the Americas (41%, of which 35% U.S), followed by EMEA8 (34%) and Asia-Pacific (25%).

Since the ‘big three’ sales per sub-segment, product portfolios and competitive advantages varies across businesses, we will elaborate on the intensity of competition in the next chapter.

Healthcare sub-segments

Philips does not disclose sales per sub-segment, however research indicates that Philips holds a #1 position across several business. In order to evaluate sub-segments, we have made our own estimations for the division of sales

for most of Philips’ businesses.

Imaging Systems

Imaging Systems generated EUR 3.31bn of sales in FY2014, the largest part of Healthcare sales (36%). Generally speaking, imaging systems enable medical professionals to illustrate processes in the human body, so that they can diagnose illnesses and establish the needed procedures. Within this business, Philips distinguishes its activities in Image Guided Therapy, which is used mainly for minimally invasive treatments, and the more traditional Diagnostic Imaging such as CT, MRI and PET scans, Ulrasound, X-ray and mammography.

Philips does not disclose exact margins on sub-segment level

8

Europe, Middle East, Africa 0

2.000 4.000 6.000 8.000 10.000 12.000 14.000 16.000 18.000

2012 2013 2014

Exhibit 10: The 'big three' sales

Philips HC - sales Siemens HC - sales

GE HC - sales

in EUR

m

Source: Company data

15,4%

16,3% 16,4%

14,0% 14,5% 15,0% 15,5% 16,0% 16,5% 17,0%

2012 2013 2014

Exhibit 11: Big three profit margins

Philips HC - prof it margin

Siemens HC - prof it margin

GE HC - prof it margin

Source: Company data, Analyst Estimates

Broad competitive advantages

Philips GE Siemens

Sleep & Respiratory Care Life Sciences Audiology

ROYAL PHILIPS COMPANY REPORT

PAGE 8/37

Diagnostic Imaging & Informatics comprises of the more traditional

imaging systems. By combining information retrieved during the process and patient data, Philips works towards first-time-right diagnosis, which can eventually lead to less invasive treatments for patients. The competitive advantage that Philips has among competitors, is that Philips is the only player with a complete offering. However, we think they have to come up with innovations to stay remain a top player. EBITA margins are currently in the high-to-single digits9. Philips said it aspires to reach mid-to-teen EBITA margins, however does not specify a range. In order to improve margins, the division has been cutting overhead costs.

Diagnostic Imaging is estimated to be a EUR 28bn market10 with low-to-mid single digit growth prospects (between 3-5%).11 Research and Markets (2013) forecasted that the total market for imaging systems would grow from USD 30.2bn in 2013 and USD 32.3bn in 2014 to USD 49bn in 2020. We believe this moderate growth will come from the business evolving into a more value-based system, meaning that it is moving from ‘pure’ imaging towards a broader role, which includes patient consultation, disease location, surgical planning, and treatment guidance.

The market revenue has been mainly generated by the three big players: Philips, General Electric (GE) and Siemens. Although precise market share are hard to define, market experts from Frost & Sullivan state that ‘the

big 3’ generated 78% of the medical imaging equipment globally.North America accounted for 25% of global market revenue, Europe for 19%, and Japan for 17%. Although Philips belongs amongst the top-players, it is obvious that there is intense competition between the giants Philips, Siemens and GE.

CEO Diagnosis & Treatment Robert Cascella, Capital Markets Day 2015

10

As indicated by Philips at the Capital Markets Day in London 11

Philips Q32015 presentation, Analyst estimates

Exhibit 12: Average prices MRI scans big 3 players

in thousands of USD 200k-400k 400k-500k 500k-700k 700k and over

Philips

Philips Achieva 450k-495k

Philips Ingenia 795k-900k

Philips Intera 295k-350k Philips Multiva 200k-300k

GE

GE Excite II 325k-425k

GE HD 400k-550k

GE HDX 460k-550k

GE HDXT 495k-575k

GE Optima 795k-900k

Siemens

Siemens Avanto 595k-700k

Siemens Espree 695-850k

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Philips competes with GE and Siemens across price ranges. We believe that Philips has a leading position in the higher price range: although Siemens offers its Espree scan for a lower price (USD 695,000 – 850,000) than Philips, we believe the Philips Ingenia scan (1.5T), which uses the first-ever digital broadband MR system, is better than competing scans. This technology delivers more clear images and sends them to the reconstructor via a fiber-optic cable, resulting in an increase in SNR of 40%.12 GE and Siemens have not developed scans that incorporate the same technology, leading us to believe that Philips has a competitive advantage to GE and Siemens in diagnostic imaging.

The additional competition from Toshiba, Hitachi, Samsung Medison and multiple other Chinese players leads us to believe that the competitive environment is highly challenging. However, the barrier to enter the diagnostics market remains high, mainly because of IP issues and the highly regulated nature of the medical devices industry. Due to the already crowded market space and high entry barriers, we believe there will not be any significant increases in competition.

One of the main risks of this business is that we believe that diagnostic imaging is a rather mature and competitive market. Due to the latter, we believe it will be a challenge to improve margins and maintain its position. Aside from cutting overhead costs, it will be necessary to review costs related to the product-life-cycle. Considering the highly specific characteristics of this equipment, DI requires in-depth knowledge of medical technology. This is an ongoing characteristic of the business that has to be taken into account, as it leave keep selling and personnel costs relatively unchanged.

Image Guided Therapy

IGT combines imaging devices and solutions, in order to guide minimally invasive treatment procedures. In other words, it uses any form of medical imaging to perform surgical procedures, hereby helping to make surgeries less invasive and more precise, which can lead to shorter hospital stays and fewer repeated procedures.13 At the moment, image guided therapy is enabling minimally invasive therapy: surgeons can see and measure a

patient’s body ‘live on screen’ in the operating room.

12 _{Signal-to-noise ratio: a measure used in science that compares the level of a desired signal to the level of}

background noise. It is defined as the ratio of signal power to the noise power, often expressed in decibels

13

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IGT is an estimated EUR 4bn market14 with high-to-single digit growth (~6%). Although IGT is a relatively new technology and little is known about the potential per geography, we believe that the main markets are in the US and Western Europe, as treatment methods are the most advanced in these parts of the world.

We estimate that Philips’ IGT business generated between EUR 1.1bn in revenues in 2015, which would reflect 30% to 35% of Imaging Systems sales. As the market is estimated at EUR 4bn, this would imply an 28% market share for Philips.

We believe the growth in this business will mainly come from the shift from surgical procedures to minimally-invasive procedures and a range of new clinical applications related to lifestyle diseases (such as diabetes). In the short term, an area showing promising advances is the treatment of hypertension through renal denervation. Hypertension, unfortunately, is a leading cause of heart disease. Renal denervation is a unique and innovative therapy for uncontrolled hypertension. During the renal denervation, (a minimally invasive procedure) a catheter gives of a radio frequeny energy at the wall of the renal artery, causing the renal nerve regulating blood pressure to evaporate. This is one of the treatments that illustrates the potential of image guided therapy, as this could provide a solution for many hypertensive patients, especially when these patients do not respond to drug treatment. Renal denervation is a new treatment method and has not yet been adopted to the greater public, with many more of these minimally invasive procedures that are being developed.

We believe Philips is well positioned to profit from the growth in IGT. Philips strengthened its business with the acquisition of Volcano Corporation in 2014 ($18 p/s cash offer). Volcano generated sales of approximately USD 400m (2014) with its intravascular ultrasound (IVUS) and Fractional Flow Reserve (FFR) measurements, and employed 1,800 people. Volcano showed stagnating growth and increasing costs, leading to a net loss in 2013 and 2014. The issues led Volcano’s stock price to fall from USD 33.45 to USD 16.7515, angering shareholders. As management continued to announce plans to cut cost and blowing new life into its business, Vocano received bids from other companies. We believe that Philips paying USD 18 per share for Volcano, is on the high side (53.2% premium on 16/12/2014 closing price), when considering the slowdown in sales (exhibit 12) and negative profit marins in 2013 (-8.8%) and 2014 (-6.3%, 9M2014). However, with IGT being a ‘new’ business and gaining popularity, in our opinion the acquistion was a

14 _{Philips estimate, Capital Markets Day 2015}

15 _{July 2011-July 2014} 17%

11,1%

3,1%

1,6% 0,00% 2,00% 4,00% 6,00% 8,00% 10,00% 12,00% 14,00% 16,00% 18,00%

0 50 100 150 200 250 300 350 400 450

2010 2011 2012 2013 2014

Exhibit 13: Volcano sales development

Sales Growth

in USD m

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PAGE 11/37

good move. Volcano complements Philip’s existing portfolio, and by combining imaging and measurement catheters (Volcano) with interventional imaging solutions (Philips), Philips can provide customers with integrated solutions: Philips can use its current customer base to sell additional IGT

systems coming from Volcano, as Volcano’s sales team will bring technical sales capabilities to Philips’ current sales force. Investors seemed to respond positively the announcement, as Philips shares rose 5.24% around the 2 days of announcement.16

Philips main competitors in IGT are Varian Medical Systems and GE. Siemens and Toshiba are less significant players, as they have launched products only recently. GE generated USD 18.3bn in Healthcare revenues, or 12% of its total USD 148bn revenues (FY2014). Approximately USD 13bn was generated by its imaging products (X-ray, CT, MRI). Although GE does not distinguish sales below sub-segmental level, GE is a stronger player in diagnostic imaging than in IGT.We believe GE competes more closely with Philips than competitor Varian because it offers more Healthcare services (~40% v.s 3%), which are mainly linked to training personnel and maintenance of diagnostic imaging products.US-based Varian generated the majority of its USD 3.5bn in sales through its Oncology business (77%). Its Imaging Components business (27%) generated USD 660m. Varian’s growth in sales (+3% vs. FY2013) was caused mainly by an increase in product sales and not by its services business. The latter is one of the reasons we believe that Philips’ competitive advantage to its peers: next to IGT products, Philips offers consultative services, training (to hospital staff), product financing and maintenance. Additionally, it has multiple strong partnerships with healthcare providers and partners, which in our opinion will lead to recurring sales in the future.

Patient Care & Monitoring Solutions

PC&MS is the second largest business within Healthcare, generated EUR 2.85bn of sales (31%). Philips PC&MS business consists of Home Monitoring, Patient Monitoring and Sleep and Respiratory Care. Regardless of the fact that Philips does not indicate sales per sub-segment, we believe that Philips has strong positions in its Home Monitoring (HM) and the Sleep & Respiratory business.

Announcement date 17/12/2014: EUR 22.51, 19/12/2014 EUR23.69:

Exhibit 14: Imaging peer overview

Strenght of business

Estimated market position

Image Guided Therapy

Philips +++ #1

GE +++ Top 3

Siemens +++ Top 3/4

Varian +++ Top 3

Diagnostics

Philips +++ Top 3

GE +++ #1

Siemens +++ Top 3

Toshiba ++ Top 5

Hitachi + Top 5

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Patient Monitoring (PM) involves in the development of patient

monitoring devices that are used when a patient is admitted at the hospital, measuring all kinds of vital signs such as heartbeat, blood pressure and brain activity.

We estimate that Philips generated EUR 1.52bn in 2014, or 50% of PC&MS sales. Among the big three players, Philips is the strongest player in patient monitoring, whereas Siemens is not active at all in this segment. Although recent market shares are unknown, the market was led by Philips with (23%) and GE (13%) in 201117. Philips’ competitive advantage to GE is the much wider variety of products and its dominant international presence resulting from the acquisition of Meditronics in India, Shenzhen Goldway in China (2008, financials undisclosed) and Dixtal Biomedica e Tecnologia in Brazil (2008, financials undisclosed). These acquisitions have built Philips’ portfolio and have significantly strengthened its position in growth geographies. Although Philips is the global market leader in PM, we believe PM is a rather mature business with limited growth opportunities in developed markets. However, Philips has identified a growth opportunity in monitoring the general ward in hospitals. Currently approximately 40% of all unanticipated hospital deaths happen at the general ward. As general ward patients have not been consistently monitored thus far, Philips could have found untapped potential, leading to growth in a rather mature (western) market. One of the main risks in Patient Monitoring is that we believe this business is rather commoditized. As a result from the latter, we expect to see price pressure increase in the future.

Home Monitoring

The Home Monitoring business is a result of the Lifeline acquisition in 2005, and has solid fundamentals as a business. It involves monitoring high risk patients at home, which can prevent major incidents. Whereas Lifeline generated around USD 150m in sales by the time of the acquisition, we estimate the current HM division to generate approximately EUR 285m (FY2014).

Tracking patients at home as opposed to in the hospital can significantly save hospital resources, which are highly valuable in healthcare due to bed overcapacity, employee under capacity and budget limitations. One of the most promising products in HM is Philips Lifeline, a Medical Alert system. This wearable device helps monitor a patient after having returned home from a procedure. If experiencing pain or an emergency, the patient

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can contact the Tele Health center by pressing the button on the device. Results so far have been promising, as there was a 50% reduction in readmission rates. As Philips does not release any information about sales per sub-segment, it is difficult to quantify the effect on sales and in profits.

Philips is currently the only player in the market with this product, which gives the company a significant competitive advantage. Main competitors are GE and Medtronic, however, we expect the trend of wearable medical (and fitness) devices and the shift to mobile monitoring to result in more competition from companies that are not directly related to healthcare. (ex. Apple HealthWatch)

Sleep & Respiratory Care

As mentioned, Philips has a strong position in the Sleep care segment. We estimate that S&RC generated around 40% of its Home Monitoring sales, which indicates an estimated market share of approximately 36% (FY2015, ~ EUR 3,4bn market). The latter is mainly due to the EUR 3.2bn acquisition of Respironics in 2008. Respironics (USD 1.2bn sales 2007) manufactures medical devices used for Obstructive Sleep Apnea patients and other sleep and respiratory disorders. In our view, the Company did well by acquiring Respironics. Firstly, Philips had a net cash position of over EUR 5bn18, leaving room for significant cash acquisitions. The USD 66 per share cash offer implied a 24.3% premium to Respironics share price. In our opinion this premium was on the higher side, but it was in line with the strong growth Respironics had been showing (+14.8% FY2006 sales, +14.7% FY2007 sales) and the expected growth of the sleep apnea market (CAGR 16.6% 2014-2020). Additionally, we believe the acquisition was in line with Philips’ strategy of expanding its health and wellness business.

As exhibit 15 illustrates, after a slight decrease in EBITA margins, Healthcare EBITA increased to 13.8% in 2010, after full integration of the Respironics portfolio. We believe the acquisition significantly strengthened

Philips’ sleep devices business, as it is currently positioned at the top of the sleep therapy market, together with ResMed (USD 1.7bn, 2015 sales). Due to its position, we believe Philips will profit from the acquisition even in the near future, as the global sleep apnea devices market is estimated to grow at a CAGR of 16.6% between 2014 and 2020.19

Upon announcement, the market responded slightly negative, as Philips’ shares lost 1 percentage point during the day (EUR 31.10 – 30.11). However,

2007 Cash & Equivalents (EUR 8.8bn) - Total Debt: (EUR 3.6bn) = EUR 5,212 million

19

Micro market monitor, Sleep Apnea Devices Market, http://www.micromarketmonitor.com/market-report/sleep-apnea-devices-reports-3271952003.html

15%

6%

0% 2% 4% 6% 8% 10% 12% 14% 16%

-4% 0% 4% 8% 12% 16%

2006 2007 2008 2009 2010

Exhibit 15: Effect on EBITA

EBITA

% Healthcare sales growth, nominal

% Healthcare sales growth, comparable

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we should take the turbulent market environment of the financial crisis into account.20.

Healthcare Informatics, Solutions & Services

The foundation of the Healthcare IT business in 2014 was a result of recent developments in the healthcare industry. The Healthcare IT division, currently generating 6% of HC sales, aims to optimize patient care by creating a digital healthcare platform, advanced informatics and big data analytics. The HIS&S business is made up by imaging informatics for radiology and cardiology departments, Picture Archiving and Communication Systems (PACS) and Electronical Medical Records (EMR) systems, with sales of approximately EUR 550m (6% of HC sales, FY2014).

PACS involves medical image storageing and information management systems that provide medical professionals acces to diagnostic images. These images can be retrieved from imaging devices ( MRI, CT or PET scans), and can therefore provide healthcare professionals with relevant patient data that was gathered in previous stages of treatment or diagnosis. As we believe this business will be the connecting factor between Healthcare and Consumer Lifestyle, we have dedicated the next chapter on the Healthcare IT market dynamics.

Customer Services

Customer Services is an increasingly important business for Philips Healthcare. The business generated nearly EUR 2.5bn in sales (27% HC sales) by offering a variety of services such as clinical support, education, installation and remote monitoring. Due to the continuous innovations in the sector and the complexity of (some of) the devices, we believe that this segment will continue to be highly relevant for Philips, even more so after the restructuring to Med Tech. GE and Siemens have similar customer services, which is unsurprising due to the complexity of the medical devices and the technical knowledge that is required to handle these devices.

Consumer Lifestyle

Philips’ Consumer Lifestyle is Europe’s largest producer of consumer electronics, generating 4.7bn of sales worldwide (FY2014), equal to 22% of group sales. The CL business is currently divided into three sub-segments: Domestic Appliances, Personal Care and Health & Wellness.

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Philips has been reshaping its Consumer Lifestyle portfolio towards the Healthy Living and Prevention areas of the Health Continuum21, in order to target more attractive markets with better margins. Because of Philips’ experience with consumer markets, the company has in-depth knowledge of consumer preferences and behaviors. This will prove to be important in the Healthy Living and Prevention areas, which reflects a large -part of the market potential (14% CAGR 2014-2018).

Reviewing sales on a geographical basis, we can conclude that Growth Geographies are growing the most for Consumer Lifestyle. In 2014, comparable sales increased by 8% in emerging markets, mainly driven by Health & Wellness and Domestic Appliances sales in China and the Middle East. In 3Q2015, comparable sales in Growth and Mature Geographies grew 5-to-6% and 7-to-8% in North America, whereas Western Europe sales only grew 1-to-2%. We believe that this indicates that the Western European market is rather mature, and Philips will have more opportunity for growth in other geographies.

Consumer Lifestyle has been showing the highest and most stable

margins out of Philips’ businesses. As illustrated in exhibit 18, Consumer Lifestyle margins have been increasing in 2014, as opposed to Healthcare margins. The improvement in margins was driven by increased earnings across segments and was accelerated further by favorable currency impacts. We believe profit margins will keep improving after the restructuring to HealthTech, on which we will elaborate further on.

The Health Continuum will be the new reporting structure of Philips, after the sale of Lighting.

Exhibit 16: Philips Health Continuum

source: Company data

Exhibit 17: market share 2015 Personal

Care

Health & Wellness

Domestic Appliances China

Americas Europe APMEA*

Share gain Share loss

*Asia Pacific, Middle East, Afrika Source: Company data

11,7% 9,3%

15,1% 21,8%

24,6%

8,2%

3,9%

10,0% _9,3% 11,0%

0,0% 5,0% 10,0% 15,0% 20,0% 25,0%

2010A 2011A 2012A 2013A 2014A Exhibit 18: Consumer Lifestyle

margins

% EBITDA margin % EBITA margin % EBIT margin

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As illustrated in exhibit 19 the proportion of sales coming from Growth Geographies has been increasing over the past years. We expect this trend to continue, as we believe that the rise of the middle class, and therefore disposable income, will lead to an increase in demand for consumer electronics. In our view, Philips has proven its operating model (market driven innovations) to be successful, which makes geographical expansion relatively low risk. Whereas the medical devices industry is rather heavily regulated, the market for consumer appliances is so to a much lesser extent. This is an opportunity for Philips to launch products fast, and improve them using feedback from consumers.

As the market is become increasingly connected and digitalized, consumers are looking for smart and personalized products and services. We believe these trends provide significant opportunities for Consumer Lifestyle: The Healthy Living segment, as indicated by Philips, is expected to grow at a CAGR of 4% whereas the Prevention segment is expected to grow at a CAGR of over 10%22. Because of the fragmentation of the market, one of the main risks of the overall Consumer Lifestyle business is that consumers have many, maybe cheaper, alternatives to choose from. In our opinion, Philips

Consumer Lifestyle’s competitive advantage lays in its diversified portfolio of

consumer electronics that are focused (in some way or another) on personal health. Due to the diversity of products, we will further elaborate on the competitive advantages per sub-segment.

Consumer Lifestyle sub-segments

Domestic Appliances (DAP)

DAP generated EUR 2.22bn of sales in FY2014, almost half of Consumer Lifestyle sales (47%). DAP develops household appliances, focusing on the categories Kitchen Appliances, Garment Care, Air Purification and Floor care.

Philips is market leader in various kitchen appliance product groups, holding #1 positions in air frying, juicers and food processers (global) and blenders in the Asia-Pacific region. We believe that this market is fragmented, as Electrolux estimates that the top 5 players together control less than 60% of the market. Aside from the known brands, there is a variety of local players active.

As the DAP market seems to be rather commoditized, consolidation has been ongoing. Examples of the latter are Electrolux acquiring GE’s DAP business

CAGR 2014-2018. Source is Philips internal study based on sources: COCIR, NEMA, Soreon, IBIS World

-1.000 2.000 3.000 4.000

5.000

6.000 7.000

Exhibit 19: Consumer Lifestyle sales per geography

Western Europe North America

Other Mature Growth geographies

in EUR m

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and Whirlpool acquiring Indesit. Due to the mentioned competition and market environment, we believe that the main risk in the DAP segment is increasing price pressure from local and global players, resulting in limited growth potential.

With sales of EUR 2bn, Philips seems smaller than market leaders Whirpool (~EUR 18bn sales FY2014), Electrolux (~EUR 15bn sales) and Midea (EUR 21bn sales). These competitors, however, offer a wide variety of consumer appliances such as refrigerators, vacuum cleaners, ovens, and small kitchen appliances.

Whereas Midea is competing with Philips mainly in China, Whirlpool’s KitchenAid competes with Philips mainly in the North American and European market. KitchenAid products have a distinctive colourful design, which sets them apart from the competition (exhibit 20). However, Philips markets its products at lower prices than Whirlpool: whereas a Philips food processor in the highest price range would cost approximately EUR 360, a KitchenAid processor with comparable characteristics costs around EUR 429.23

Electrolux (Sweden) sells its products in over 150 countries, with the largest markets being Europe , North and Latin America. The company sells a variety of household appliances such as complete kitchens, refrigerators, washing machines and small domestic appliances. The Company is specifically well positioned in the vacuum cleaner segment, and to a lesser extent than Philips in kitchen appliances. Electrolux generated 8% of its ~12bn sales (FY2014) from small domestic appliances, or EUR 960m, not

even half of Philips’ DAP sales.

Philips in our opinion has a competitive advantage among the premium brands, based on price/quality. We estimate that DAP margins lay between those of Whirlpool and Electrolux, because of the aforementioned differences in product positioning and pricing.

Personal Care

Personal Care manufactures consumer appliances for personal hygiene, generating EUR 1.5bn in sales, or 33% of CL sales. Philips distinguishes its business in the categories Male Grooming and Beauty.

Philips holds a market leading position in Male Grooming, mainly because of its competitive advantage in price/quality and the locally relevant marketing capabilities.

The Company has been expanding into lower tier cities in China in order further build out its position in Growth Geographies. To create more

Analyst Research, Dutch prices 2015. Source: KitchenAid, MediaMarkt.

Source: Company data Exhibit 20: KitchenAid vs Philips

Exhibit 21: DAP peers

CAGR (3yr)

EBITDA margin

Philips DAP 7,85% 7-8%

Midea 5,49% 11,4%

Electrolux 3,09% 6,5%

Whirlpool 3,74% 10,7%

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value for existing customers as well, Philips launched new electrical shaving products in 47 countries, which led to double-digit growth in this sub-segment with strong sales in Europe, Japan and China specifically. The Beauty segment continues to have a strong position in Western Europe, China and India. Philips Lumea is now the market leader in laser hair removal in 14 countries across Europe, Latin America, Asia and the Middle East24.

Procter & Gamble’s is one of Philips’ main competitors. P&G’s competes with Philips mainly in North America (40%, 2012-2014), followed by Western Europe and Asia (18%, 2012-2014). P&Gs Grooming business includes brands such as Braun and Gillette, and offers products in the categories of electric shavers and lady shavers, among others. In 2014, 10% of net sales, or ~EUR 7.5bn, was generated by the Grooming business. This makes P&Gs Grooming business look much larger than that of Philips (~EUR 1.5bn). However, one should take into account that these sales include all grooming products (razors, shaving foam, etc).

Japan-based Panasonics has a wide variety of products in its

portfolio, comparable to Philips’ portfolio of several years ago. The portfolio ranges from entertainment systems and tablets to home appliances. This makes Panasonic harder to compare, as margins vary broadly across these businesses.

Health & Wellness

Within the Health & Wellness division (EUR 994m sales, FY2014) Philips develops products for Oral Health (rechargeable toothbrushes) and Mother & Child Care, among others. Within the oral care segment, Philips is the clear market leader, with double-digit sales growth25 (estimated between 11-13%). Its established products, such as the Sonicare DiamondClean electrical toothbrush, and new product innovations for Sonicare for Kids have driven growth across markets, particularly in China, Japan, Germany and North America. Philips is closely followed by Procter & Gamble (Oral-B). Procter & Gamble indicated to generate approximately EUR 1bn in ‘power

oral care’ products, making it the number 2 player after Philips with

approximately 20% market share. The upcoming middle class in developing countries provides an opportunity for growth in the Oral Health business, as an increased number of people will have access to basic personal health appliances. Therefore, we expect Philips will profit from the shift to electrical

Source: Philips research

25

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source: company data 0

2000 4000 6000 8000

2011 2012 2013 2014

Exhibit 22: Lighting

sales per geography

Western Europe North America Other Mature Growth geographies

in EUR

m

toothbrushes, of which the latter currently has a global penetration of only 10%.26

Lighting

With its EUR 6.9bn in sales, (FY2014) Philips Lighting is the largest lighting company in the world. The Lighting division is involved in both the development and the manufacturing of lamps, lighting products and services. Philips breaks down its activities in 3 parts, Lamps (59% FY2014), Luminaires (6%) and Professional solutions (35%). Seventy-five percent of Lighting sales is B2B and is generate in the Outdoor segment (33%). Manufacturing of these products and services is done in various facilities in approximately 25 countries, with the LED manufacturing facility in China being the largest. Philips Lighting is involved in several large-scale projects.

In 2014 Philips announced it will provide Spain’s capital Madrid with a

complete renewal of the street lighting system.27 In addition, the Company provides lighting solutions to major sports events and stadiums.

In September 2014 Philips indicated the plan to separate the Lighting business into a stand-alone company. In 2014 the Company already sold off part of its Lighting activities (Lumileds and Automotive Lighting), but continued its current lamp business.

In our opinion, Philips anticipated on the shift to LED lighting a bit late, which is why margins have been fluctuating. The margin decrease in 2011 specifically was due to a lower gross margin due to raw material increases, and higher investments in selling and R&D. In our opinion, this illustrates that Philips did not anticipate on the changes in the market (shift from conventional to LED) fast enough. We will analyze the sale of the Lighting business further along this research.

Innovation, Group & Services

IG&S comprises the activities of Philips Group Innovation, Group headquarters (including country and regional management) andcertain costs of pension and other post-retirement benefit plans. All Group services and costs such as procurement, finance, HR, IT and real estate are reported in this sector. When Phillips announced its plans to restructure its current business to Med Tech by establishing two standalone companies, it also implies that during 2015, the IG&S in its current form will disappear.

Pieter Nota, CEO Personal Health, Capital Markets Day 2015

27

Philips will install approximately 225,000 lights, making the project the world’s largest street lighting renewal to date.

2,7%

5,7%

9,8%

7,8%

-4,7% -6,0%

-4,0% -2,0% 0,0% 2,0% 4,0% 6,0% 8,0% 10,0% 12,0%

2011 2012 2013 2014

Exhibit 23: Lighting margins

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The repositioning to HealthTech

The HealthTech market size is estimated to be over EUR 140bn28, with Philips holding a 10% current market share (EUR 13.9bn 2014). This HealthTech market comprises all product segments as described in Philips’

‘Health Continuum’. This market is not to be confused with the traditional Med Tech market size which is much bigger, as it also includes Bio Sciences/Pharmaceuticals.

The market is becoming increasingly complex, as fundamental shifts are taking place. The latter led to Philips’ decision to integrate the current Healthcare and Consumer Lifestyle divisions, hereby renewing its focus completely on Med Tech. This might come across as a completely new focus, but in reality Philips has been selling off un-related businesses for several years now (sale of Automotive Lighting, Audio & Video, Lifestyle Entertainment businesses). One of the main factors that we believe will make

the ‘new’ Philips unique, is the fact that there is no comparable company (health focused consumer lifestyle + health care). In order to capture the growth in the HealthTech environment, Philips will combine its consumer knowledge with its medical expertise, hereby improving customer focus.

Whereas it is rather straightforward to position the Healthcare division on the continuum, it might be harder to look at Consumer Lifestyle in the same way. One could say the link between a food processor (Healthy Living) and a CT scan (Diagnosis) is not straightforward, as Healthy Living and Prevention customers are consumers, whereas the rest of the Health Continuum has medical professionals as customers, with the end-consumer being patients. Although the connection might be vague to some, we believe that there is one division that will link all businesses together: Healthcare IT.

Philips’ current Healthcare IT division (6% HC sales) “aims to optimize patient care by gathering and presenting the right information to the right people”. In practice, this means creating a digital healthcare platform, informatics and big data analytics, that will help both consumers and medical professionals. The current HIS&S business is majorly made up by Picture Archiving and Communication Systems (PACS) and Electronic Medical Records (EMR), generating sales of approximately EUR 550mn (6% FY2014 Healthcare sales). PACS involves medical image storage and information

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Exhibit 24: Healthcare IT sales Philips vs US players

systems that deliver access to diagnostic images (retrieved from CT, PET, X-ray, etc) and patient data. We believe the majority of sales are generated by it PACS business, whereas the EMR business is still in its start-up fase.

Philips plans to add features to its Consumer Lifestyle products that record usage data for consumers to analyze themselves: electric toothbrushes storing data on usage and risk on dental caries, and fryers storing the amount of calories and fat of the food prepared. Some CL products already have such features, but this trend is in its early stages.

There are currently three transformations going on in the Healthcare care, and from volume to value. In other words, customers want connected systems that digitalize patient data, leading to digital and integrated solutions. Healthcare IT (HCIT) systems are built on Open APIs (software making it possible for apps to interact and share data) and are cloud-based. This structure makes it possible to share clinical data from various sources that can then help medical professionals across the Health Continuum with clinical decisions. These systems are mainly vendor-neutral, meaning that images and documents uploaded on a Siemens CT scan (for example) can still be accessed from a Philips HCIT system.

The PACS competitive landscape is intense, as over 20 players are trying to gain territory in the PACS environment. As illustrated McKesson (23%), Carestream (17%) and Sectra (15%) are dominating the market, whereas Philips (4%) is controlling only a very small proportion of the PACS market, just below Siemens (5%). These small market shares illustrate that the main players (Philips, GE, Siemens) in Healthcare hardware have not accomplished to dominate HCIT as well. This could be perceived as surprising, since the diagnostic imaging market is in fact dominated by these players.

The biggest players in the overall Healthcare IT sector are Cerner and McKesson, mainly due to their more complete offering. Cerner is the biggest Healthcare IT player in the world with USD 4,2bn (9M2015) sales and

a USD 19.8bn market cap (Nov’ 2015). In 2014, Cerner took over Siemens Healthcare IT business, which is the reason that Siemens is not competing in this sector. Considering Cerner’s market leading position, it comes as no surprise that it is only player with a complete offering of solutions (PACS, home monitoring, EMR/EPR, claims/benefits management and pharmaceuticals). McKesson (USD 137bn FY2014) is the number two behind Cerner, offering pharmaceuticals, medical supplies and healthcare IT. Whereas McKesson is predominantly a pharmaceuticals company (80.27% of

Exhibit 25: PACS players

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Exhibit 26: Examples of Healthcare IT products

1.Connected baby care products

Provide parents with data about their newborn (average feeding frequency and hour, vital signs)

2. Connected electric toothbrushes

Measuring frequency and duration of brusing. Might come with an app that send a warning sign when the chance of dental caries increases.

3. Connected airfryers, foodprocessors and blenders

Measuring the nutritional value of the prepared food, such as amount of calories, grams of fat, etc. This information can facilitate consumers in living a healthy life and decreasing the risk of having to go to a hospital.

Source: Analyst research & estimation

sales), its Healthcare IT business still generates USD 3.1bn in sales (1.7% FY15), which is comparable to Cerner total revenues. The majority of all health systems in the US (52%) are in the customer base of McKesson,

indicating the Company’s significance in the Healthcare IT market.

Philips is positioned on the lower-mid end of the overall Healthcare IT business, closely following GE. We believe this is rather unsurprising and will change in the short-to-medium term, as Philips’ HCIT business was founded

only recently (2014). Additionally, we believe Philips’ Healthcare business will

grow significantly due to connected Consumer Lifestyle products. GE is generating the same 6% of its Healthcare sales from HCIT (USD 1.1bn, mainly PACS) as Philips, but has a higher market share due to its higher overall Healthcare business. In order to strengthen its HCIT business, Philips closed a partnership with Salesforce.com in 2014. Philips is contributing clinical knowledge, data stores and medical device know-how, whereas Salesforce.com is bringing its cloud-based platform to the table. In our opinion this partnership looks promising for several reasons. Firstly, partnering up with Salesforce.com is a capital light approach to capture the growth potential in HCIT. Secondly, Philips will be able to use the vast amount of data (stored in the cloud) to develop new products that can benefit both customers and consumers

.

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The Lighting sale

The Lighting food chain can typically be illustrated as the figure below. In essence, due to the fact that LED is a chip, LED is a semiconductor, which explains the position of semi equipment companies like Aixtron and Veeco at the start of the chain. Philips has been decreasing its presence in the highly volatile LED Die & Packaging market (LumiLEDs) and is instead focusing more on the more value adding parts in the business; Luminaires and Controls. Regardless of this shift, the manufacturing of lamps and modules continues to make up a large part (57% of Lighting sales 2015E) of the Philips Lighting business.

When studied closely, the value chain can be split up in two major parts. One part is made up by the actual Lamps, which are typically mass produced. The other part could in fact be seen as the value adding part, as this group consists of value adding products such as drivers, luminaires, fixtures and controls. The lighting market is currently undergoing two fundamental shifts:

1. The change to LED from traditional lighting sources. This year, Equinet29 estimated that in 2014 5-6% of global lamp shipments were LED. Philips in turn stated that 44% of Lighting sales were LED based (3Q15), which is in line with the LED percentage at Osram, but differs from GE (39% LED based).

2. Luminaires and lamps get more and more integrated. This is a result of the significantly longer lifetime of LED lamps (vs conventional) and control is

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delivered separately. The latter has results in the enabling features like Ethernet powered lamps and smart controls.

Within the Lighting business, the Professional Lighting Solutions segment has shown most growth. Philips adopted the shift to LED and more integrated designs rather fast and is therefore on the forefront of realizing more LED-related sales, which will lead to more sizable LED sales (as opposed to conventional lighting) in 2016 already. Furthermore, we believe that the sale of LumiLEDs, which is on the more commoditizing front end of the value chain, is a good step. Taking costs out will be the main strategic difference in the longer term in this segment. In the segments that directly interact with consumer markets like lamps and luminaires, brand name and image will continue to be a distinctive factor, which is in favor of Philips.

In lamps, Philips is world market leader. In the higher added value parts of the value chain (luminaires and controls) Philips has strong positions.

Philips and Osram are the only truly integrated light players. US-based Cree, GE Lighting also have an integrated offering, but to a lesser extent. This is a competitive advanage for both Philips and Osram, but Philips has a stronger brand name and reputation.

There is much competition in the first part of the value chain, in which European players like Philips and Osram, but also US-based Cree (LED only) compete mostly on cost with Asian (Chinese & Tawainese) players. In the higher end of the value chain, Philips is in competition with Zumtobel (Austria), which offers products for the non residential segment, and Fagerhult (Sweden) Osram is the number 2 (5.1bn FY2014 sales) in the world lighting market. The company is going through a restructuring that could be seen as similar to the one happening at Philips. However, Osram is selling off the lamp business and will focus on the professional segments automotive lighting and lighting solutions for buildings and cities.

Source: Company data, Analyst research Gross margin EBIT margin

OSRAM 31,4% 7,7%

CREE 37,6% 8,3%

Zumtobel 32,2% 1,0%

Fagerhult 32,4% 10,1%

San'an 44,7% 33,6%

Xiamen 38,1% 13,5%

Epistar 19,0% 7,8%

Everlight 15,7% 8,6%

Philips 40,0% 7,4%

0,0% 5,0% 10,0% 15,0% 20,0% 25,0% 30,0% 35,0% 40,0% 45,0% 50,0%

Exhibit 27: Lighting

margins 2014

Exhibit 28: Lighting peers

Source: Company data, Analyst research Philips Lighting competitors

in EUR bnLocation

Sales '14

Market cap

5 year CAGR Philips Netherlands 6.9 22.0 1.1%

OSRAM Germany 5.5 5.2 15.1%

CREE US 4.7 2.6 -42.8%

Zumtobel Austria 1.3 0.9 93.4%

Fagerhult Sweden 3.9 0.6 266.0%

San'an China 0.6 4.5 33.6%

Xiamen China 0.1 0.5 13.5%

Epistar Taiwan 0.7 1.8 7.8%

Everlight Taiwan 0.8 0.8 8.6%

Exhibit 29: Lighting competition overview

Competitor

Intensity of

competition Market position

Philips +++ #1

OSRAM +++ #2

CREE ++ #3

Zumtobel ++ #5

Fagerhult ++ #4

San'an + Top 10

Xiamen + Top 10

Epistar + Top 10

Everlight + Top 10