OVERALL BUSINESS DEVELOPMENT

Economic environment

The strong upward trend in the global economy since 2004 subsided slightly during 2007. The trigger was the financial market crisis that emerged in the second half of the year, sparked by defaults on subprime mortgage loans in the United States. This led to a liquidity squeeze in the international financial markets and temporary sharp falls in share prices in the stock markets.

The growth in global gross domestic product (GDP) was slightly weaker than in 2006 at 5.2 % (2006: 5.4 %). The emerging economies, such as China, India and Russia, gained weight over the past years, while the importance of the two largest economies, the United States and Japan, has declined. World economic growth was mainly driven by the continued strong demand from the emerging markets.

The oil price rose steeply in 2007, reaching new record levels of almost US$ 100 per barrel. The euro firmed against the US dollar, driven by the good economic development in the Eurozone and the expectation of further interest rate hikes by the European Central Bank.

Share of leading economies in global GDP growth:
	2007	2000	2007	2000
	in billion US$		Share in %
United States	13,794	9,817	25.8	30.9
Japan	4,346	4,669	8.1	14.7
Germany	3,259	1,906	6.1	6.0
China	3,249	1,199	6.1	3.8
India	1,090	462	2.0	1.5
Russia	1,224	260	2.3	0.8

• Europe
  In 2007, economic development in the Eurozone was again robust, with GDP growth of 2.6 % (2006: 2.8 %). Strong growth rates of over 3.0 % were achieved in Ireland (4.5 %), Finland (4.3 %), Greece (4.0 %), Spain (3.8 %), and Austria (3.3 %). Good economic growth in Germany contributed significantly to the economic upturn in the Eurozone. In France (1.9 %), Italy (1.8 %) and Portugal (1.8 %) growth was more modest. Driven by the dynamic momentum of expansion of the world’s economy, exports rose strongly in almost all member states despite the strength of the euro. Corporate investment also was an important support for economic enterprise in the Eurozone. Private consumption was buoyant, bolstered by an impressive decline in unemployment in 2007 and the two previous years. Thanks to the encouraging economic development, the European budget scenario improved, prompting the European Union’s Economic and Financial Affairs Council to drop the excessive deficit procedure pending against Germany, Greece, and Malta.
  
  Economic development in Germany was again positive, with GDP growth of 2.6 % (2006: 2.9 %), despite the fact that the country had to assimilate its biggest ever increase in value-added tax since it was first introduced in 1968. Nonetheless, thanks to increasing incomes and the improving situation in the labor market, private consumption was only marginally below the previous year’s level. Exports were again the main growth driver in 2007. Weaker demand from the United States in the wake of the US subprime crisis was more than offset by strong export sales to Asian and Central and Eastern European markets. Business confidence among German companies remained positive in 2007, reflecting their strong profitability and healthy financial situation.
  
  The EU member states in Eastern Europe again witnessed strong growth. The highest GDP growth was in Latvia with 10.5 % (2006: 11.9 %), followed by Estonia with 8.5 % (2006: 11.2 %), and Slovakia with 9.0 % (2006: 8.5 %).

• United States
  The economic situation in the United States cooled in 2007. After a modest start to the year sentiment remained optimistic, anticipating that the crisis in the private housing market would be overcome. Instead, rising interest rates and falling property prices led to the subprime mortgage market crisis later in the year. High energy prices also dampened the economy. GDP grew by 2.2 %, well below the IMF’s forecast of almost 3.0 %. Private consumption continued to provide the greatest support for the economy despite increased restraint in consumer spending. Overall, domestic demand was moderate. Exports grew, buoyed by the weakness of the US dollar. In the second half of the year monetary policy focused on stabilizing the financial system. However, as a result of the uncertainties, the Federal Reserve rate was lowered from 5.25 % to 4.25 %. In 2008, the Federal Reserve rate was lowered further to currently 3.0 %.

• Asia
  Asia (excluding Japan) was once again the world’s fastest growing region, with GDP growth of 9.5 % (2006: 9.3 %). The vigorous economic development in China was reflected in its GDP growth of 11.4 % - above 10 % for the fifth year running. The main drivers were investment in machinery and equipment and private consumption. Exports once again played an important role. India’s GDP grew by 9.0 %, the main drivers being the capital goods industry as well as information technology and processing. Japan’s economy lost momentum in 2007. Despite a weaker yen and a strong world economy, the Japanese economy failed to extricate itself from a near deflationary situation. Its GDP growth decreased to 1.6 % (2006: 2.2 %). The emerging economies of Southeast Asia took advantage of the favorable export conditions and continued to expand, proving relatively robust to the crisis in the international financial markets.

• Latin America
  The economic upswing in Latin America continued in 2007. GDP growth remained robust at an average rate of 5.0 % (2006: 5.2 %). The growth was dampened, however, especially in Mexico, by the downturn in the US economy. The region’s resource and food exporting countries continued to profit from undiminished strong demand in 2007, despite high price levels. GDP growth was 8.1 % in Argentina (2006: 8.5 %), 5.3 % in Brazil (2006: 3.8 %), and 3.1 % in Mexico (2006: 4.8 %). Exports were the main growth driver. In Brazil, investments made a substantial contribution to the positive economic development. In the year of presidential elections, public consumption was high in Argentina. Private consumption remained buoyant in both countries.

Source: German Council of Economic Exports Annual Report 2007/2008, bank research
OECD Health Data 2007 

Health care industry

The health care sector is one of the world’s major industries and, compared with other sectors, has set itself apart through years of continuous growth and its relative insensitivity to economic fluctuations. Its main drivers in the industrialized countries are aging populations, the demand for innovative therapies and advances in medical technology. Growing health consciousness is also increasing the demand for health care services and facilities. In the emerging countries, the main growth driver is the increasing availability of primary health care.

At the same time, the cost of health care is rising and is claiming an ever increasing share of national income. Average per capita health care spending in the OECD countries increased more than 80 % between 1990 and 2005, heavily outpacing the 37 % growth in GDP. Today, one in four OECD countries spends over 10 % of its GDP on health care. In 2005, relative to GDP, the United States spent the highest percentage on health care, followed by Switzerland, France, and Germany.

Reforms and cost-containment measures are the main reactions to the steadily rising expenditures. In the past, the focus was mostly on short-term changes in the financing of medical services. Increasingly, outdated health care structures are being reviewed and market-driven elements introduced into health care systems. The goal is to create new incentives for cost-conscious as well as quality-conscious performance. The quality of treatment is a crucial factor in optimizing medical results and reducing overall treatment costs. Against this background, ever greater emphasis is being placed on disease prevention and innovative reimbursement models where the quality of treatment is the key parameter.

Health care spending as % of GDP
in %	1970	1980	1990	2000	2005
United States	7.0	8.8	11.9	13.2	15.3
Switzerland	5.5	7.4	8.3	10.4	11.6
France	5.4	7.0	8.4	9.6	11.1
Germany	6.0	8.4	8.3	10.3	10.7

Our most important markets developed as follows:

• The dialysis market
  In 2007, the global dialysis market grew by approximately 5 % to a volume of about US$ 58 billion, with the market for dialysis care accounting for approximately US$ 45 billion and the market for dialysis products for about US$ 9.5 billion. Diabetes and high blood pressure are the leading causes of terminal kidney failure. Aging populations, improved treatments and higher living standards in the industrialized countries are additional reasons for the increase in patient numbers.
  
  In more than 140 countries, patients with terminal kidney failure receive kidney replacement therapy in the form of dialysis or a transplant. The prevalence differs widely from region to region. The overwhelming majority of the patients (95 %) are treated in just 60 countries. If these 60 countries are grouped according to their economic strength in terms of per capita gross domestic product, they can be divided into three categories: the 20 strongest economies, which include the two largest dialysis markets the United States and Japan, have an average prevalence of well over 1,000 patients per million population. In countries with lower economic success, the prevalence is about 500 patients per million population, and in countries with weak economies it is approximately 100 patients per million population. These figures show that the economic situation of a country has a significant influence on access to life-saving dialysis treatment.
  
  The number of dialysis patients worldwide increased by about 6 % in 2007. At the end of the year there were approximately 1.64 million patients receiving regular dialysis treatment. More than 89 % of these are treated with hemodialysis, while about 11 % choose peritoneal dialysis.
  
  The majority of hemodialysis patients are treated in dialysis clinics. There are about 26,500 dialysis centers worldwide with an average of 55 hemodialysis patients per clinic. In the United States, most of the approximately 5,000 clinics are run privately, with about 1 % publicly operated. By contrast, some 60 % of the approximately 5,000 dialysis clinics in the European Union are publicly owned. In Japan, about 80 % of the dialysis clinics are run by private nephrologists.

DIALYSIS PATIENTS BY REGION

In the dialysis products market, the most important products are dialyzers, hemodialysis machines, dialysis solutions and products for peritoneal dialysis. Dialyzers are by far the biggest product segment in the dialysis market. Approximately 165 million units were sold in 2007, of which about 75 million were produced by Fresenius Medical Care. Dialysis machines are another important segment in the products business. Of the approximately 55,000 new dialysis machines that were brought onto the market in 2007, over 50 % were from Fresenius Medical Care. The top three manufacturers have a share of almost 70 % of the global market for dialysis products. Fresenius Medical Care is the market leader with a share of about 30 %.

Fresenius Medical Care is also the world leader in dialysis care. The company has further expanded its leadership in dialysis care in the United States to a market share of about 34 %. Together, Fresenius Medical Care and the second largest dialysis care provider DaVita operate about two-thirds of all the dialysis clinics in the United States. Outside the United States, the markets for dialysis care are much more fragmented. 

Because treatment costs in the United States are covered primarily by public health insurers, providers mainly compete on quality and availability. In most countries outside the United States, Fresenius Medical Care competes mainly with independent clinics and clinics that are affiliated to hospitals. Terminal kidney failure is one of the few chronic diseases whose treatment is covered by the public health insurers in the United States. The two public health care programs Medicare und Medicaid cover the medical services for more than 80 % of all dialysis patients in the United States. Changes in the reimbursement rates or in the method of reimbursement therefore have special relevance for our North America business.

The following changes in the reimbursement system came into force in the United States in 2007:

• As from April 1, 2007, the Medicare reimbursement rate per dialysis treatment (Composite Rate) was increased by 1.6 % over the previous year.
• The level of reimbursement for renal pharmaceuticals such as erythropoietin (EPO) that have to be billed separately, decreased in 2007. The average sale price (ASP) plus 6 % serves as the basis for reimbursement. A fall in the ASP for this drug resulted in a decrease in the reimbursement for EPO in 2007.

In 2007, there was an extensive discussion in the United States about the treatment of anemia in dialysis patients. Hemoglobin levels are measured frequently to ensure adequate medical treatment with erythropoiesis stimulating agents (ESA) like EPO. For dialysis patients the recommended hemoglobin level is in the range 10 to 12 g/dl of blood; this was also assessed as adequate by several US authorities in 2007.

There were also intensive discussions about a possible extension of a so-called Medicare Secondary Payor extension (MSP). The key issue is whether private health insurers will have to bear the costs of their dialysis patients for longer than the present period of 30 months. After this, the public health programs take over the costs. Since no decision had yet been reached by the end of 2007, there have been no changes in this regard.

• The market for infusion therapy and clinical nutrition
  Demographic changes, the resulting increased need for medical services, and the demand for innovative therapies are the main growth drivers for this market. In the emerging economies, the growth in national incomes is the trigger for higher health care spending.
  
  However, market conditions for infusion therapy and clinical nutrition products vary widely from region to region:
  
  In Central and Western Europe, cost-containment measures and health care reforms are the key factors affecting the public health systems. Therapies that lead to better clinical outcomes while reducing the length of hospital stays are increasingly gaining importance in these countries. Patients with nutritional deficiencies have poorer chances of recovery than patients with a normal nutritional status. These deficiencies can lead to higher treatment costs and longer hospital stays. Nutritional therapy measures are therefore becoming increasingly important, not only on health grounds but also for economic reasons. At the same time, cost pressures in hospitals, budget caps, and health care cost-containment schemes are continuing the shift away from inpatient care to more outpatient care. Outpatient clinical nutrition therapies should therefore gain in importance.
  

In Central and Western Europe, the total market for infusion therapy and clinical nutrition is currently growing at a low single-digit rate. The market for intravenously administered generic drugs for hospitals is growing at a mid single-digit rate. More and more generic drugs are being used as a result of the cost pressure. The expiration of patents for many original drugs will further accelerate this growth. Proven off-patent substances will then be used in generic products.

The market for medical devices for infusion therapy and clinical nutrition in Europe is continuing to grow at mid single-digit rates. Here, the main growth drivers are technical innovations that focus on treatment safety and therapy efficiency.

In the growth regions of Asia-Pacific, Latin America and Eastern Europe, where the main focus is on the provision of primary health care to the population, there is increasing demand for life-saving and life-prolonging health care services. Growth rates in our product markets here are in the high single to double digits.

Based on its own surveys, Fresenius Kabi assumed its relevant market for infusion solutions and clinical nutrition to be in the range of € 9 billion.

• The German hospital market
  The total volume for hospital treatment (excluding research and teaching) in Germany was about € 65 billion in 2006. Personnel costs accounted for about 63 % and material costs for about 37 %. Cost increases were largely driven by 5.9 % higher material costs. Personnel costs only rose 0.6 %.
  
  For over 15 years the number of hospitals, the number of available beds, and the length of stay have been steadily declining in Germany due to overcapacity. Nonetheless, with 6.4 beds per 1,000 population in 2005, Germany is still well above the OECD average of 3.9.

Key figures for inpatient care in Germany
	2006	2005	Change
Hospitals	2,104	2,139	-1.6 %
Available beds	510,767	523,824	-2.5 %
Number of admissions (in million)	16.83	16.54	1.8 %
Beds per 1,000 population	6.2	6.4	-0.2
Average costs per admission (€)*	3,932	3,813	3.1 %
Length of stay (days)	8.5	8.7	-0.2
*total costs, gross

The average stay of a patient in an acute care clinic (excluding specialized psychiatric clinics) in Germany was 8.5 days at the end of 2006. The average length of stay at the HELIOS acute care clinics in 2006 was 7.1 days, a result of their efficient processes.

After reaching a peak of 17.4 million in 2002, the number of inpatient admissions in Germany declined in the following three years. Among other things, this was due to the introduction of DRG-based (Diagnosis Related Groups) reimbursement which led to an increased reduction in unnecessary referrals and to a growing number of outpatient treatments. In 2006, the number of hospital admissions rose slightly. While the number of admissions in the area of advanced medicine is expected to rise as a result of demographic changes, the shift toward outpatient treatment for less acute cases is likely to continue. Germany registered 204 inpatient hospital admissions per 1,000 population in 2006, a much higher figure in comparison to other countries. In the United States, for instance, it was 117 admissions in 2005. Other countries, rank well below the German level with figures in the range of 150 admissions per 1,000 population. The pressure on inpatient hospital capacities in Germany is therefore likely to persist. The HELIOS Kliniken nonetheless managed to increase their number of admissions. HELIOS plans to strengthen inpatient care by widening its range of medically complex treatments that have to be provided on an inpatient basis and by enhancing the quality of the care provided, especially in the area of advanced medicine. 

The rising number of hospital admissions at the HELIOS Kliniken and patient surveys show that patients also regard the selective, medically justified reduction of length of stay through optimized processes as positive.

The necessary structural adjustments in Germany in terms of the number of hospitals and available beds are aggravated by the difficult financial and economic situation found at many hospitals. The main factors here are rising investment needs in response to higher quality requirements and technological advances, and an increasingly competitive environment as reimbursement is standardized. It is estimated that the current annual investment backlog is approximately € 5 billion. Hospital competitiveness is therefore also dependent on their ability to self-finance these investments. In 2007, HELIOS Kliniken added € 149 million from their own funds to the grant-financed investments received from the federal states, thereby further improving its competitive position. 

The German hospital market faced considerable burdens in 2007 including: the need to deduct 0.5 % from bills issued to public health insurers to implement the hospitals’ contribution toward improving the finances of the public health insurance system; an increase in VAT; a wage tariff increase for hospital doctors; and additional costs resulting from EU legislation on working hours. It is expected that only about 40 % of hospitals will make a net profit in 2007.

The privatization trend in the German hospital market continued in 2007. However, the process slightly slowed down.

Hospital beds by operator was as follows in 2006:

Quality continues to be a key competitive factor in the hospital market. The structured quality reports, which all acute care hospitals in Germany have been required to publish since 2005, provide information on the type and number of treatments and their quality. The transparency and comparability of the treatments for the patients and their doctors will play an increasingly decisive role.

Sources: German Federal Statistics Office, OECD Indicators – 2007 edition; German Medical Association, “Growing Trend towards Hospital Privatizations in Germany”; Krankenhaus-Barometer survey 2007

The Management Board’s assessment of the effect of general economic developments and developments in the health care sector for Fresenius

On the whole, the global economy and the health care sector – in the mature and the growth markets – developed positively for Fresenius in 2007. While these factors were responsible for much of the Group’s growth, strong demand for its products and services enabled Fresenius to outpace the growth of the health care industry as a whole.

Significant factors affecting operating performance

In 2007, the positive development was driven to a large extent by the excellent performance of the business segments, where significant increases in sales and in earnings were achieved. Currency changes, especially in the US dollar/euro exchange rate, had an important impact. The Group statement of income was also affected by a number of acquisitions and divestitures, partly from 2006. The principal acquisitions were: Renal Care Group, the Taiwanese dialysis provider Jiate Excelsior, Renal Solutions in the United States, and HUMAINE Kliniken, as well as two hospitals in the state of North Rhine-Westphalia and one near Lake Constance.

Städtische Kliniken Krefeld was consolidated in the balance sheet as of December 31, 2007. Fresenius Kabi acquired Nestlé’s enteral nutrition business in France (Novartis Nutrition S.A.S.) and Spain (Nestlé España) in 2007. The perfusion business of the subsidiary Fresenius Medical Care Extracorporeal Alliance and the engineering companies Pharmaplan and Pharmatec were divested. However, the impact of these acquisitions and divestitures in the Group balance sheet as of December 31, 2007, was not significant.

The Management Board’s assessment of the business results

The Management Board is of the opinion that the economic development of the Fresenius Group in 2007 was again excellent – with sales, earnings and margin improvements in all business segments. The two business segments Fresenius Medical Care and Fresenius Kabi profited from the continued strong demand for their products and services and generally outperformed the market. This was reflected in sustained strong organic growth and higher profitability. Fresenius Helios also achieved very good organic growth and further improved its operating margin. As expected, Fresenius Vamed, was able to report good sales and earnings growth in 2007.

Comparison of the actual business results with the forecasts

As the summary below shows, all the targets set by Fresenius for 2007 were achieved or exceeded.

Based on the excellent operating performance in the first three quarters, at the end of October 2007 Fresenius again raised its forecasts for sales and net income. With sales growth of 10 % in constant currency, Fresenius fully achieved its forecast of a 9 to 10 % increase. The target of over 25 % for net income in constant currency was also fully achieved with growth of 28 %. This was mainly attributable to the even better than expected performance of Fresenius Medical Care and Fresenius Helios. The net debt/EBITDA ratio was below the target range of 2.8 to 3.0, and was 2.6 as of December 31, 2007. Fresenius invested € 705 million in property, plant and equipment and in intangibles in 2007. That is slightly above the projected € 600 to 700 million.

Group	Targets for 2007 announced in February 2007	Raised target announced in August 2007	Raised target announced in October 2007	Achieved in 2007
Sales (growth, in constant currency)	8 to 10 %		9 to 10 %	10%
Net income (growth, in constant currency)	20 to 25 %	~ 25 %	more than 25 %	28%
Capital expenditure	€ 600 to 700 million			€ 705 million
Net debt/EBITDA	2.8 to 3.0			2.6