Edgar Filing: BAYER AKTIENGESELLSCHAFT

FORM 20-F

As filed with the Securities and Exchange Commission on March 15, 2005

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 20-F


(Mark One)
o		REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR 12(g) OF THE SECURITIES EXCHANGE ACT OF 1934

OR

þ		ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

		For the fiscal year ended December 31, 2004.

OR

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 001-16829

BAYER AKTIENGESELLSCHAFT

(Exact name of Registrant as specified in its charter)

BAYER CORPORATION*

(Translation of Registrant’s name into English)

Federal Republic of Germany

(Jurisdiction of incorporation or organization)

Bayerwerk, Gebäude W11

Kaiser-Wilhelm-Allee

51368 Leverkusen, GERMANY

(Address of principal executive offices)

Securities registered or to be registered pursuant to Section 12(b) of the Act.


Title of Each Class:		Name of Each Exchange on Which Registered:

American Depositary Shares representing Bayer AG ordinary shares of no par value		New York Stock Exchange
Bayer AG ordinary shares of no par value		New York Stock Exchange**

Securities registered or to be registered pursuant to Section 12(g) of the Act.

None

(Title of class)

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act.

None

(Title of class)

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report.

As of December 31, 2004, 730,341,920 ordinary shares, of no par value, of Bayer AG were outstanding.

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes þ No o Not applicable.

Indicate by check mark which financial statement item the registrant has elected to follow:

Item 17 o Item 18 þ


*	Bayer Corporation is also the name of a wholly-owned subsidiary of the registrant in the United States.


**	Not for trading, but only in connection with the registration of American Depositary Shares.

TABLE OF CONTENTS


		Page

PART I
Item 1.	Identity of Directors, Senior Management and Advisors		5
Item 2.	Offer Statistics and Expected Timetable		5
Item 3.	Key Information		5
Item 4.	Information on the Company		14
	History and Development of the Company		14
	Business		15
	Bayer HealthCare		16
	Bayer CropScience		36
	Bayer MaterialScience		42
	LANXESS		54
	Intellectual Property Protection		57
	Governmental Regulation		59
	Organizational Structure		64
	Property, Plants and Equipment		66
Item 5.	Operating and Financial Review and Prospects		68
	Overview		68
	Critical Accounting Policies		69
	Operating Results 2002, 2003 and 2004		73
	Bayer Group		79
	Segment Data		83
	Liquidity and Capital Resources 2002, 2003 and 2004		94
	Research and Development		101
	Basis of Presentation		101
Item 6.	Directors, Senior Management and Employees		106
Item 7.	Major Shareholders and Related Party Transactions		116
Item 8.	Financial Information		117
Item 9.	The Listing		128
Item 10.	Additional Information		130
Item 11.	Quantitative and Qualitative Disclosures about Market Risk		135
Item 12.	Description of Securities Other Than Equity Securities		140

PART II
Item 13.	Defaults, Dividend Arrearages and Delinquencies		140
Item 14.	Material Modifications to the Rights of Security Holders and Use of Proceeds		140
Item 15.	Controls and Procedures		140
Item 16.	[Reserved]		141
Item 16A.	Audit Committee Financial Expert		141
Item 16B.	Code of Ethics		141
Item 16C.	Principal Accountant Fees and Services		141
Item 16D.	Exemptions from the Listing Standards for Audit Committees		142
Item 16E.	Purchases of Equity Securities by the Issuer and Affiliated Purchasers		142

PART III
Item 17.	Financial Statements		143
Item 18.	Financial Statements		143
Item 19.	Exhibits		143
EXHIBIT 1.1
EXHIBIT 4.1
EXHIBIT 4.2
EXHIBIT 4.3
EXHIBIT 4.4
EXHIBIT 4.5
EXHIBIT 4.6
EXHIBIT 4.7
EXHIBIT 12.1
EXHIBIT 12.2
EXHIBIT 13.1

Defined Terms and Conventions

Bayer AG is a corporation organized under the laws of the Federal Republic of Germany. As used in this annual report on Form 20-F, unless otherwise specified or required by the context, the term “Company”, “Bayer” or “Bayer AG” refers to Bayer AG and the terms “we”, “us” and “our” refer to Bayer AG and, as applicable, Bayer AG and its consolidated subsidiaries.

Due to rounding, numbers presented throughout this document may not add up precisely to the totals we provide and percentages may not precisely reflect the absolute figures.

Forward-Looking Information

This annual report on Form 20-F contains forward-looking statements that reflect our plans and expectations. As these statements are based on current plans, estimates and projections, you should not place undue reliance on them. We generally identify forward-looking statements with words such as “expects”, “intends”, “anticipates”, “plans”, “believes”, “estimates” and similar expressions.

Forward-looking statements involve known and unknown risks, uncertainties and other factors. We caution you that a number of important factors may cause our actual results, performance, achievements or financial position to be materially different from any results, performance, achievements or financial position expressed or implied by forward-looking statements. These factors include, but are not limited to:


	•	Cyclicality in our industries;

	•	Reduced demand for older products in response to advances in technology;

	•	Increasingly stringent regulatory controls;

	•	Increased raw materials prices;

	•	The expiration of patent protections;

	•	Environmental liabilities and compliance costs;

	•	Failure to compete successfully, integrate acquired companies or develop new products and technologies;

	•	Risks from hazardous materials;

	•	Litigation and product liability claims; and

	•	Fluctuations in currency exchange rates.

A discussion of these and other factors that may affect our actual results, performance, achievements or financial position is contained in Item 3, Key Information — Risk Factors, the various “Strategy” sections in Item 4, Information on the Company, Item 5, Operating and Financial Review and Prospects and elsewhere in this annual report on Form 20-F.

Forward-looking statements speak only as of the date they are made, and we undertake no obligation to update publicly any of them in light of new information or future events.

Enforceability of Civil Liabilities under U.S. Federal Securities Laws

We are a German corporation. All of our directors and executive officers are residents of Germany. A substantial portion of our assets and those of such individuals is located outside the United States.

As a result, although a multilateral treaty to which both Germany and the United States are party guarantees service of writs and other legal documents in civil cases if the current address of the defendant is known, it may be difficult or impossible for you to effect service of process upon these persons from within the United States.

Also, because these persons and assets are outside the United States, it may be difficult for you to enforce judgments against them in the United States, even if these judgments are of U.S. courts and are based on the civil liability provisions of the U.S. securities laws.

If you wish to execute the judgment of a foreign court in Germany, you must first obtain from a German court an order for execution (Vollstreckungsurteil). A German court may grant an order to execute a U.S. court judgment with respect to civil liability under the U.S. federal securities laws if that judgment is final as a matter of U.S. law. In granting the order, the German court will not enquire whether the U.S. judgment was, as a matter of U.S. law, correct. However, the German court must refuse to grant the order if:


	•	the U.S. court lacked jurisdiction, as determined under German law;

	•	the person against whom the judgment was obtained did not receive service of process adequate to permit a proper defense, did not otherwise acquiesce in the original action and raises the lack of service of process as a defense against the grant of the execution order;

	•	the judgment would conflict with the final judgment of a German court or with the final judgment of another foreign court that is recognizable under German law;

	•	recognition of the judgment would violate an important principle of German law, especially basic constitutional rights; or

	•	there is a lack of reciprocity between Germany and the jurisdiction whose court rendered the original judgment.

You should be aware that German courts hold certain elements of some U.S. court judgments, for example, punitive damages, to violate important principles of German law. Judgments for ordinary compensatory damages are generally enforceable, unless in an individual case one of the reasons described above would forbid enforcement.

If you bring an original action before a German court based on the provisions of the U.S. securities laws and the court agrees to take jurisdiction over the case, the court will decide the matter in accordance with the applicable U.S. laws, to the extent that these do not violate important principles of German law. However, the court may refuse to accept jurisdiction if another action is pending before a U.S. or other foreign court in the same matter. Furthermore, the court might decide that, for a lawsuit brought by a U.S. resident under U.S. law against a defendant that, like Bayer, has a significant presence in the United States, a U.S. court would be the more proper forum.

PART I


Item 1.	*Identity of Directors, Senior Management and Advisors*

Directors and Senior Management

Not applicable.


Item 2.	*Offer Statistics and Expected Timetable*

Not applicable.


Item 3.	*Key Information*

Selected Financial Data

We derived the following selected financial data for each of the years in the five-year period ended December 31, 2004 from our consolidated financial statements. We have prepared our consolidated financial statements in accordance with International Financial Reporting Standards, or IFRS and, where indicated, in accordance with U.S. Generally Accepted Accounting Standards, or U.S. GAAP. Since 2002, IFRS is the term for the entire body of accounting standards issued by the International Accounting Standards Board (IASB), replacing the earlier International Accounting Standards, or IAS. Individual accounting standards that the IASB issued prior to this change in terminology continue to use the prefix “IAS”. Note 44 to our consolidated financial statements included in Item 18 of this annual report on Form 20-F describes the reconciliation of significant differences between IFRS and U.S. GAAP.

Since January 1, 1999, we have prepared our financial statements in European Union euros (€). In this annual report on Form 20-F, we have translated certain euro amounts into U.S. dollar amounts at the rate of $1.3538 = €1.00, the noon buying rate of the Federal Reserve Bank of New York on December 31, 2004. We have translated these amounts solely for your convenience, and you should not assume that, on that or any other date, one could have converted these amounts of euros into dollars at that or any other exchange rate.

The financial information presented below is only a summary. You should read it together with the consolidated financial statements included in Item 18.


	*Consolidated Income Statement Data*


	Year Ended December 31,

	2000			2001			2002			2003			2004			2004

	€			€			€			€			€			$
	(In millions, except per share data)
IFRS:
Net sales from continuing operations		—	⁽¹⁾		21,702			22,038			22,178			23,045			31,198
Net sales from discontinuing operations		—	⁽¹⁾		8,573			7,586			6,389			6,713			9,088
Net sales		30,971			30,275			29,624			28,567			29,758			40,286
Operating result from continuing operations		—	⁽¹⁾		1,466			781	⁽²⁾		520	⁽²⁾		1,790			2,423
Operating result from discontinuing operations		—	⁽¹⁾		210			737	⁽²⁾		(1,639	) ⁽²⁾		18			24
Operating result		3,287			1,676			1,518	⁽²⁾		(1,119	) ⁽²⁾		1,808			2,447
Non-operating result		(297	)		(561	)		(562	) ⁽²⁾		(875	) ⁽²⁾		(823	)		(1,114	)
Income before income taxes		2,990			1,115			956			(1,994	)		985			1,333
Income taxes		(1,148	)		(154	)		107			645			(385	)		(521	)
Income after taxes		1,842			961			1,063			(1,349	)		600			812
Minority stockholders’ interest		(26	)		4			(3	)		(12	)		3			4
Net income		1,816			965			1,060			(1,361	)		603			816
Average number of shares in issue		730			730			730			730			730			730
Operating result from continuing operations per share		—	⁽¹⁾		2.01			1.07	⁽²⁾		0.71	⁽²⁾		2.45			3.32
Basic net income/loss per share		2.49			1.32			1.45			(1.86	)		0.83			1.12
Diluted net income/loss per share		2.49			1.32			1.45			(1.86	)		0.83			1.12
Dividends per share		1.40			0.90			0.90			0.50			N/A	⁽³⁾		N/A	⁽³⁾
U.S. GAAP:
Net income		1,783			800			1,277			(1,445	)		653			885
Basic and diluted net income per share		2.44			1.10			1.75			(1.98	)		0.89			1.21


⁽¹⁾	We do not present discontinuing operations for 2000 because we were unable without unreasonable effort and expense to restate these years’ financial data to reflect the operations we classified as discontinuing operations in all more recent periods.

⁽²⁾	2002 and 2003 data have been restated for these items because of a change in the reporting of funded pension obligations. For more details, see Note 7 to the consolidated financial statements appearing elsewhere in this annual report on Form 20-F.

⁽³⁾	The dividend payment for 2004 has not yet been decided on. Our Supervisory Board has accepted our Board of Management’s proposal to recommend at our annual general shareholders’ meeting a dividend for 2004 of €0.55 per share, for a total dividend of €402 million.


	*Consolidated Balance Sheet Data*


	Year Ended December 31,

	2000			2001		2002		2003		2004		2004

	€			€		€		€		€		$
	(In millions, except per share data)
IFRS:
Total assets		36,451			37,039		41,692		37,445		37,804		51,179
of which discontinuing operations		—	⁽¹⁾		8,813		6,077		4,648		4,934		6,680
Stockholders’ equity		16,140			16,992		15,335		12,213		12,268		16,608
Liabilities		20,074			20,019		26,237		25,109		25,425		34,420
of which long-term financial liabilities		2,803			3,071		7,318		7,378		7,117		9,635
of which discontinuing operations		—	⁽¹⁾		3,489		2,824		2,190		2,351		3,183
U.S. GAAP:
Stockholders’ equity		19,110			18,300		16,734		13,327		13,047		17,663
Total assets		38,740			37,831		42,668		38,012		38,496		52,116


⁽¹⁾	We do not present discontinuing operations for 2000 because we were unable without unreasonable effort and expense to restate these years’ financial data to reflect the operations we classified as discontinuing operations in all more recent periods.

Dividends

The following table indicates the dividends per share paid from 2002 to 2004. Shareholders who are U.S. residents should be aware that they will be subject to German withholding tax on dividends received. See Item 10, Additional Information — Taxation.

2002

2003

2004

Total dividend (€ in millions)

657

365

N/A

⁽¹⁾

Dividend per share (€)

0.90

0.50

N/A

⁽¹⁾

Dividend per share ($)

1.22

0.68

N/A

⁽¹⁾


⁽¹⁾	The dividend payment for 2004 has not yet been decided on. Our Supervisory Board has accepted our Board of Management’s proposal to recommend at our annual general shareholders’ meeting a dividend for 2004 of €0.55 per share, for a total dividend of €402 million.

See also Item 8, Financial Information — Dividend Policy and Liquidation Proceeds.

Exchange Rate Data

The following table shows, for the periods and dates indicated, the exchange rate of the U.S. dollar to the euro based on the noon buying rate of the Federal Reserve Bank of New York. Fluctuations in the exchange rate between the euro and the U.S. dollar will affect the market price of the shares and the ADSs, the U.S. dollar amount received by holders of shares and the ADSs on conversion by the Depositary of any cash dividends paid in euro and the U.S. dollar translation of our results of operations and financial condition.


Year	Period End		Average		High		Low

	(U.S. dollar per euro)
2000		0.9388		0.9233		1.0335		0.8270
2001		0.8901		0.8909		0.9535		0.8370
2002		1.0485		0.9454		1.0485		0.8594
2003		1.2597		1.1321		1.2597		1.0361
2004		1.3538		1.2438		1.3625		1.1801


Previous Six Months	High		Low

	(U.S. dollar per
	euro)
September 2004		1.2417		1.2052
October 2004		1.2783		1.2271
November 2004		1.3288		1.2703
December 2004		1.3625		1.3224
January 2005		1.3476		1.2954
February 2005		1.3274		1.2773

The exchange rate of the U.S. dollar to the euro based on the noon buying rate of the Federal Reserve Bank of New York on March 3, 2005 was $1.3130 = €1.00. In this annual report on Form 20-F, we have translated certain euro amounts into U.S. dollar amounts at the rate of $1.3538 = €1.00, the noon buying rate of the Federal Reserve Bank of New York on December 31, 2004.

Risk Factors

An investment in our shares or ADSs involves a significant degree of risk. You should carefully consider these risk factors and the other information in this annual report on Form 20-F before deciding to invest in our shares or ADSs. The risks described below are the ones we consider material. However, they are not the only ones that may exist. Additional risks not known to us or that we consider immaterial may also have an impact on our business operations. The occurrence of any of these events could seriously harm our business, operating results and financial condition. In that case, the trading price of our shares or ADSs could decline and you could lose all or part of your investment.


	*Our transactions relating to LANXESS expose us to continuing liability*

Our liability for prior obligations of the LANXESS subgroup following its spin-off is governed by both statutory and contractual provisions. Under the German Transformation Act, all entities that are parties to a spin-off are jointly and severally liable for obligations of the transferor entity that are established prior to the spin-off date. Bayer AG and LANXESS AG are thus jointly and severally liable for all obligations of Bayer AG that existed on January 28, 2005. The company to which the respective obligations were not assigned under the Spin-Off and Acquisition Agreement, dated September 22, 2004, between Bayer AG and LANXESS AG ceases to be liable for such obligations after a five-year period.

Under the Master Agreement between Bayer AG and LANXESS AG of the same date, each of Bayer AG and LANXESS AG agreed to release the other party from those liabilities each has assumed as principal debtor under the Spin-Off and Acquisition Agreement. The Master Agreement contains provisions for the general apportionment of liability as well as special provisions relating to the apportionment of product liability and of liability for environmental contamination and antitrust violations between Bayer AG and LANXESS AG. The Master Agreement applies to all activities of Bayer AG and LANXESS AG units throughout the world, subject to certain conditions for the United States. For a description of these agreements, please see Item 10, Additional Information — Material Contracts.

We may bear expenses in the future relating to liabilities of the former LANXESS subgroup under the German Transformation Act or pursuant to the Spin-Off and Acquisition Agreement or the Master Agreement. These could have a material adverse effect on our financial condition and results of operations.


	*Cyclicality may reduce our operating margins or cause operating losses*

Several of the industries in which Bayer operates are cyclical. This applies particularly to our Materials and Systems segments. Typically, increased demand during peaks in the business cycle in these industries leads producers to increase their production capacity. Although peaks in the business cycle have been characterized by increased selling prices and higher operating margins, in the past these capacity increases have led to excess capacities because they have exceeded demand growth. Low periods in the business cycles are then characterized by decreasing prices and excess capacity. These factors can depress operating margins and may result in operating losses.

Excess capacities can affect our operating results especially with respect to those commodity businesses that are characterized by slow market growth. We believe that some areas of the isocyanate business, in particular, face slow growth in demand together with substantial excess production capacity. Excess capacity in polycarbonates has declined but continues to affect the structure of the polycarbonates market. Future growth in demand may not be sufficient to absorb current excess capacity or future capacity additions without significant downward pressure on prices and adverse effects on our operating results.

The agriculture sector is particularly subject to seasonal and weather factors and fluctuations in crop prices, which may have a negative influence on our business results. As climate conditions and market prices for agricultural products change, the demand for our agricultural products generally also changes. For example, a drought will often reduce demand for our fungicides products.


	*Failure to develop new products and production technologies may harm our competitive position*

Bayer’s operating results significantly depend on the development of commercially viable new products and production technologies. We devote substantial resources to research and development. Because of the lengthy development process, technological challenges and intense competition, we cannot assure you that any of the products we are currently developing, or may begin to develop in the future, will become market-ready or achieve commercial success. If we are unsuccessful in developing new products and production processes in the future, our competitive position and operating results will be harmed.

Competitive pressure from new agrochemical compounds that achieve similar or improved results with better ecotoxicological profiles and smaller doses may reduce the sales of our existing products. The growing importance of plant biotechnology in the crop protection field could reduce market demand for some of our agrochemical products and, to the extent that our competitors supply those biotechnological products, could lead to declines in our revenues.


	*Regulatory controls and changes in public policy may reduce the profitability of new or current products*

We must comply with a broad range of regulatory controls on the testing, manufacturing and marketing of many of our products. In some countries, including the United States, regulatory controls have become increasingly demanding. We expect that this trend will continue and will expand to other countries, particularly those of the European Union (EU). A proposed EU chemicals policy could mandate a significant increase in the testing and assessment of all chemicals, leading to increased costs and reduced operating margins for these products. Although we have adopted measures to address these stricter regulations, such as increasing the efficiency of our internal research and development processes in order to reduce the impact of extended testing on time-to-market, stricter regulatory regimes could substantially delay our product development or restrict our marketing and sales.

Our Pharmaceuticals, Biological Products segment and our Consumer Care, Diagnostics segment are subject to particularly strict regulatory regimes. Failure to achieve regulatory approval of new products in a timely manner or at all can mean that we do not recoup our research and development investment through sales of that product. We do not know when or whether any approvals from regulatory authorities will be received. Withdrawal by regulators of an approval previously granted can mean that the affected product ceases to generate revenue. This can occur even if regulators take action falling short of actual withdrawal or direct their action at “over-the-

counter” (OTC) products that do not require regulatory approval. In addition, in some cases we may voluntarily cease marketing a product even in the absence of regulatory action.

Pharmaceutical product prices are subject to controls or pressures in many markets. Some governments intervene directly in setting prices. In addition, in some markets major purchasers of pharmaceutical products (whether governmental agencies or private health care providers) have the economic power to exert substantial pressure on prices. Price controls limit the financial benefits of growth in the life sciences markets and the introduction of new products. We cannot predict whether existing controls will increase or new controls will be introduced, further limiting our financial benefits from these products.

Changes in governmental agricultural policies could significantly change the structure of the overall market for agricultural products in affected countries in which we operate. A substantial change in the level of subsidies for agricultural commodities could negatively affect the level of agricultural production and the extent of the area under cultivation. As a consequence, existing markets could change with a corresponding negative impact on our CropScience subgroup’s sales and operating results. As it is impossible at present to determine precisely what changes, if any, may occur, whether and when such changes will be implemented and the extent of their impact, close monitoring and analyses of the related political developments are necessary. We expect the operating result of our CropScience business to reflect the uncertainties of this industry.


	*Our operating margins may decrease if we are not be able to pass increased raw material prices on to customers or if prices for our products decrease faster than raw material prices*

Significant variations in the cost and availability of raw materials and energy may reduce our operating results. We use significant amounts of petrochemical-based raw materials and aromatics (benzene, toluene) in manufacturing a wide variety of our products. We also purchase significant amounts of natural gas, coal, electricity and fuel oil to supply the energy required in our production processes. The prices and availability of these raw materials and energy vary with market conditions and may be highly volatile. There have been in the past, and may be in the future, periods during which we cannot pass raw material price increases on to customers. Even in periods during which raw material prices decrease, we may suffer decreasing operating profit margins if the prices of raw materials decrease more slowly than do the selling prices of our products. In the past, we have entered into hedging arrangements with respect to raw materials prices only to a limited extent. If the market for these hedging arrangements attains sufficient liquidity and we can obtain their protection at a reasonable cost, we would consider making more extensive use of these hedging instruments.


	*Shortages or disruptions of supplies to customers due to unplanned capacity decreases or shutdowns of production plants may reduce sales*

Production at some of our manufacturing facilities or the supply of raw materials to them could be adversely affected by technical failures, strikes, natural disasters, regulatory rulings and other factors. Our Biological Products division, in particular, generally faces complicated production processes that are more subject to disruption than is the case with other processes and therefore pose increased risk of manufacturing problems, unplanned shutdowns and loss of products. Production capacities at one or more of our sites or major plants could therefore decline temporarily or longer term. If, however, the capacity of one or more material facilities is reduced or manufacture of material products is shut down for a prolonged period and we are unable to shift sufficient production to other plants or draw on our inventories, we can suffer declines in sales revenues and in our results, be exposed to damages claims and suffer reputational harm.


	*Litigation and administrative claims could harm our operating results and cash flows*

We are involved in a number of legal proceedings and may become involved in additional legal proceedings. See Item 8, Financial Information — Legal Proceedings. Each of these proceedings or potential proceedings could involve substantial claims for damages or other payments. These proceedings include claims alleging product liability, claims alleging breach of contract and claims alleging antitrust violations. If our opponents in these lawsuits obtain judgments against us or if we determine to settle any of these lawsuits, we could be required to pay substantial damages and related costs.

We are also plaintiff in lawsuits to enforce our patent rights in our products. If we are not successful in these actions, we would expect our revenue from these products to decline as generic competitors enter the market.

In cases where we believe it appropriate, we have established provisions to cover potential litigation-related costs. Increased risks currently result from litigation commenced in the United States after we voluntarily withdrew Lipobay/ Baycol (cerivastatin) from the market and voluntarily stopped marketing products containing phenylpropanolamine (PPA).

Since the existing insurance coverage with respect to Lipobay/ Baycol and PPA is exhausted, it is possible — depending on the future progress of the litigation — that Bayer could face further payments that are not covered by the provisions already established. We will regularly review whether further accounting measures are necessary depending on the progress of the litigation. Please see also — Existing insurance coverage may turn out to be inadequate.


	*The loss of patent protection or ineffective patent protection for marketed products may result in loss of sales to competing products*

During the life of its patent related to the compound per se, a patented product is normally only subject to competition from alternative products. After a patent expires, the producer of the formerly patented product is likely to face increased competition from generic products entering the market. This competition is likely to reduce market share and sales revenue of the formerly patented product. See Item 4, Information on the Company — Intellectual Property Protection, for a discussion of the scheduled expiration dates of our significant patents. In addition, generic drug manufacturers, particularly in the United States, may seek marketing approval for pharmaceutical or agricultural products currently under patent protection by attacking the validity or enforceability of a patent. If a generic manufacturer succeeds in voiding a patent protecting one of our products, that product could be exposed to generic competition before the natural expiration of the patent. See Item 8, Financial Information — Legal Proceedings, for a discussion of several important patent-related proceedings in which we are involved.

The extent of patent protection varies from country to country. In some of the countries in which we operate, patent protection may be significantly weaker than in the United States or the European Union. Piracy of patent-protected intellectual property has often occurred in recent years, particularly in some Asian countries. In particular, these countries could facilitate competition within their markets from generic manufacturers who would otherwise be unable to introduce competing products for a number of years. We do not currently expect any proposed patent law modifications to affect us materially. Nevertheless, if a country in which we sell a substantial volume of an important product were to effectively invalidate our patent rights in that product, our revenues could suffer.


	*Failure to compete successfully or integrate newly acquired businesses may reduce our operating results*

Bayer operates in highly competitive industries. Actions of our competitors could reduce our profitability and market share. In some commodity areas (especially within our Materials and Systems segments), we compete primarily on the basis of price and reliability of product and supply. All of our segments, however, also compete in specialty markets on the basis of product differentiation, innovation, quality and price. Significant product innovations, technical advances or the intensification of price competition by competitors could harm our operating results.

From time to time, we acquire all or a portion of an established business and combine it with our existing business units. Integration of existing and newly-acquired businesses requires difficult decisions with respect to staffing levels, facility consolidation and resource allocation. We must also plan carefully to ensure that established product lines and brands retain or increase their market position. If we fail to effectively integrate a new business or if integration results in significant unexpected costs, our results of operations could suffer.


	*Risks from the handling of hazardous materials could negatively impact our operating results*

Bayer’s operations are subject to the operating risks associated with pharmaceutical and chemical manufacturing, including the related risks associated with storage and transportation of raw materials, products and wastes. These risks include, among other things, the following hazards:


	•	pipeline and storage tank leaks and ruptures;

	•	fires and explosions;

	•	malfunction and operational failure; and

	•	releases, discharges or disposal of toxic and/or hazardous substances resulting from these or other causes.

These operating risks have the potential to cause personal injury, property damage and environmental contamination, and may result in the shutdown of affected facilities and in business interruption and the imposition of civil or criminal penalties, and negatively impact the reputation of the company. The occurrence of any of these events may significantly reduce the productivity and profitability of the affected manufacturing facility and harm our operating results. Furthermore, our property damage, business interruption and casualty insurance policies may not be adequate to cover fully all potential hazards incidental to our business.

For more detailed information on environmental issues, see Item 4, Information on the Company — Business — Governmental Regulation.


	*Environmental liabilities and compliance costs may have a significant negative effect on our operating results*

The environmental laws of various jurisdictions impose actual and potential obligations on Bayer to remediate contaminated sites. These obligations may relate to sites:


	•	that we currently own or operate;

	•	that we formerly owned or operated;

	•	where we disposed of waste from our operations;

	•	where our toll manufacturers operate or operated; or

	•	where property owned by third parties was contaminated by the emission or spill of contaminants for which we bear responsibility.

The costs of these environmental remediation obligations could significantly reduce our operating results. In particular, our accruals for these obligations may be insufficient if the assumptions underlying these accruals prove incorrect or if we are held responsible for additional, currently undiscovered contamination. See Item 4, Information on the Company — Business — Governmental Regulation.

Furthermore, Bayer is or may become involved in claims, lawsuits and administrative proceedings relating to environmental matters. An adverse outcome in any of these might have a significant negative impact on our operating results and reputation.

Stricter health, safety and environmental laws and regulations as well as enforcement policies could result in substantial liabilities and costs to Bayer and could subject our handling, manufacturing, use, reuse or disposal of substances or pollutants to more rigorous scrutiny than is currently the case. Consequently, compliance with these laws and regulations could result in significant capital expenditures and expenses as well as liabilities, thereby harming our business and operating results.


	*Existing insurance coverage may turn out to be inadequate*

We seek to cover foreseeable risks through insurance coverage. Such insurance coverage, however, may not fully cover the risks to which the company is exposed. This can be the case with respect to insurance covering legal and administrative claims, as discussed above, as well as with respect to insurance covering other risks. For

certain risks, adequate insurance coverage may not be available on the market or may not be available at reasonable conditions. Consequently, any harm resulting from the materialization of these risks could result in significant capital expenditures and expenses as well as liabilities, thereby harming our business and operating results.


	*Significant fluctuations in exchange rates affect our financial results*

Bayer conducts a significant portion of its operations outside the euro zone. Fluctuations in currencies of countries outside the euro zone, especially the U.S. dollar and Japanese yen, can materially affect our revenue as well as our operating results. For example, changes in currency exchange rates may affect:


	•	the relative prices at which we and our competitors sell products in the same market;

	•	the cost of products and services we require for our operations; and

	•	the euro-denominated items in our financial statements.

Although these fluctuations can benefit us, they can also harm our results. From time to time, we may use financial instruments to hedge some of our exposure to foreign currency fluctuations. As of December 31, 2004, we had entered into forward foreign exchange contracts and currency swaps with a total notional value of €4.9 billion (excluding cross currency interest rate swaps included in our €7.2 billion notional amount of interest rate hedging contracts). For further information on these products, see Item 11, Quantitative and Qualitative Disclosures about Market Risk.


	Negative developments affecting capital markets may make additional contributions to our pension funds necessary and changes in the yield assumptions could have an impact on the valuation of liabilities

Fund assets generally have to cover future pension obligations. Changes and movements in the equity, fixed income, real estate and other markets could significantly change the valuation of the assets of our plans. A change in yield assumptions could also have an impact on the discounted present value of our pension obligations. In addition, changes in pension and postretirement benefit plan assumptions, such as rates for compensation increase, retirement rates, mortality rates, health care cost trends and other factors can lead to significant increases or decreases in our pension or postretirement benefit obligations, which would affect the reported funded status of our plans and therefore could also negatively affect the net periodic pension cost or course cash contributions in the future.

We cannot assure you that any future expenses or cash contributions that become necessary under our pension or postretirement benefit plans will not have a material adverse effect on our financial condition and results of operations.


Item 4.	*Information on the Company*

HISTORY AND DEVELOPMENT OF THE COMPANY

Bayer Aktiengesellschaft, or Bayer AG, is a stock corporation (Aktiengesellschaft) organized under the laws of the Federal Republic of Germany.

Bayer AG was incorporated in 1951 under the name “Farbenfabriken Bayer AG” for an indefinite term and adopted its present name in 1972. Bayer AG’s registered office (Sitz) and principal place of business are at the Bayerwerk, 51368 Leverkusen, Germany. Its telephone number is +49 (214) 30-1 and its home page on the World Wide Web is at www.bayer.com. Reference to our website does not incorporate the information contained on the website into this annual report on Form 20-F. The headquarters of Bayer AG’s U.S. subsidiary, Bayer Corporation, are located at 100 Bayer Road, Pittsburgh, Pennsylvania 15205-9741.

The major acquisitions and divestments of the Bayer Group during the last three years are listed below. For capital expenditures (excluding acquisitions) for these years please refer to Item 5, Liquidity and Capital Resources 2002, 2003 and 2004 — Capital Expenditures. For capital expenditures by individual business segment for the last three years refer to the segment data in Notes to the Consolidated Financial Statements of the Bayer Group — Key Data by Business Segment.

Our expenditures on acquisitions in the past three years were as follows:


	•	In 2002, we spent a total of €7.9 billion on acquisitions, mainly for the acquisition of Aventis CropScience effective June 1, 2002 from Aventis and Schering. Approval of this acquisition by the relevant antitrust authorities, particularly in Europe and the United States, was conditional upon our divesting or outlicensing a number of products, which we completed in the course of 2004. In 2002, we also acquired Visible Genetics Inc. in Canada and Tectrade A/ S in Denmark.

	•	In 2003, we spent a total of €72 million on acquisitions, mainly for increasing our interest in the Bayer Polymers Sheet Europe Group (formerly known as Makroform) to 100 percent.

	•	In 2004, Bayer spent a total of €0.4 billion on acquisitions. Of this amount, approximately €0.1 billion was used for the purchase of Crompton Corporation’s 50 percent stake in the Gustafson joint venture (seed treatment business) based in the United States, Canada and Mexico, in which Bayer already held a 50 percent share.

In July 2004, Bayer announced the acquisition of Roche’s global over-the-counter (OTC) consumer health business — except in Japan — with a total purchase price of approximately €2.4 billion. The acquired business comprises consumer brands such as Rennie® and Bepanthen®, vitamins and nutritional supplements and also includes Roche’s 50 percent stake in the U.S. Bayer-Roche joint venture. 50.4 percent of 2004 sales of the acquired OTC business were generated in Europe and 49.6 percent outside Europe. The acquisition is primarily being financed through the use of our own funds, although loans were taken out in several countries for legal and tax reasons. By the end of 2004, we had paid approximately €0.2 billion to acquire the remaining 50 percent stake in the U.S. Bayer-Roche joint venture and €0.2 billion (which is not included in the 2004 total acquisition amount of €0.4 billion) as a first payment for the business in the rest of the world. After the approval of the acquisition by European antitrust authorities, which was subject to minor conditions, control of most of the business has passed to Bayer at the beginning of 2005. We expect to assume full operating control by the end of the first half of 2005.

Our principal divestitures in the past three years were the following:


	•	In 2002, we divested the following businesses: Haarmann & Reimer (€1.7 billion); the remaining 30 percent share in Agfa-Gevaert N.V. for €0.7 billion (70 percent had already been divested in 1999); our 94.9 percent interest in Bayer Wohnungen GmbH (€0.5 billion); our French and Spanish generic pharmaceutical operations (€0.1 billion); and a large part of the global household insecticides business of our Consumer Care division (€0.4 billion).

	•	In 2003, we sold the remaining parts of the household insecticides business (€0.3 billion), our 50 percent interest in PolymerLatex (€0.1 billion) and our stake in the biotechnology company Millennium


		Pharmaceuticals, Inc. (€0.3 billion). As part of the conditions imposed by the European, U.S. and Canadian antitrust authorities in connection with the Aventis CropScience acquisition, a number of active ingredients especially in the area of insecticides and fungicides were divested (€1.3 billion).

	•	In July 2004, we sold, pursuant to contractual obligations, our 15 percent interest in the KWS Saat AG, a seed company acquired as part of Aventis CropScience in 2002.

As announced in November 2003, Bayer combined its former Bayer Chemicals segment (except for Wolff Walsrode and H.C. Starck) with parts of its former Bayer Polymers business to form the LANXESS subgroup with economic effect from July 1, 2004 as part of its portfolio realignment. LANXESS AG became a legally independent company on January 28, 2005, when its spin-off was registered in the Commercial Register (Handelsregister) for Bayer AG at the Local Court of Cologne (Amtsgericht Köln), Germany. The LANXESS subgroup represents 20.3 percent of total sales revenues and 4.1 percent of total operating result of the Bayer Group in 2004. Those portions of our business that were combined into our LANXESS subgroup and subsequently spun off are shown as “discontinuing operations” in the consolidated financial statements and the notes to those financial statements included elsewhere in this annual report on Form 20-F. These discontinuing operations data are intended to present the LANXESS subgroup as an integral part of Bayer and not on an independent group basis.

In December 2004, we announced the divestment of our Plasma business to two U.S. financial investors. The total consideration to be received by Bayer amounts to approximately €450 million, including cash, a 10 percent equity interest in a newly-formed corporation, retention of selected working capital items and contingent payments of about €40 million. 12.2 percent of 2004 sales from this business were generated in Europe and 87.8 percent outside Europe. The transaction is subject to regulatory approvals and is expected to be closed in the first half of 2005.

BUSINESS

We are a global company offering a wide range of products, including ethical pharmaceuticals, diagnostics and other health care products, agricultural products and polymers. Bayer AG is headquartered in Leverkusen, Germany and is the management holding company of the Bayer Group, which includes approximately 350 consolidated subsidiaries.

Following our strategic alignment culminating in the spin-off of the LANXESS subgroup, our business operations are now organized in three subgroups:


	•	Bayer HealthCare (consisting of our three health care segments: Pharmaceuticals, Biological Products; Consumer Care, Diagnostics; and Animal Health) develops, produces and markets products for the prevention, diagnosis and treatment of human and animal diseases.

	•	Bayer CropScience (consisting of our CropScience segment) is active in the area of chemical crop protection and seed treatment, non-agricultural pest and weed control and plant biotechnology.

	•	Bayer MaterialScience (comprising our Materials segment and our Systems segment) primarily develops, manufactures and markets products in the polyurethane, polycarbonate, cellulose derivatives and special metals field.

Three service organizations provide support functions to the three subgroups, Bayer AG and third parties. They are:


	•	Bayer Technology Services, which provides engineering functions.

	•	Bayer Business Services, which provides information management, accounting and reporting, consulting and administrative services.

	•	Bayer Industry Services, which operates the Bayer Chemical Park network of industrial facilities in Germany and provides site-specific services. Since July 1, 2004, Bayer Industry Services GmbH & Co. OHG has been 60 percent held by Bayer AG and 40 percent held by LANXESS Deutschland GmbH.

Our strategic alignment on core competencies should enable us to increase investment in growth businesses and innovative technologies. We expect that this will allow us to play a leading role in these attractive markets and to expand our current strong positions. We intend to optimize the allocation of resources as well as continue with our cost-saving and efficiency-improvement programs in order to increase Bayer’s corporate value over the long term.

Bayer’s long-term strategy and activities are guided by the role of a socially and ethically acting “corporate citizen” and the principles of sustainable development, whose objectives are to meet the economic, ecological and social needs of today’s society without compromising the ability of future generations to meet their own needs. We contribute to sustainable development by participating in the worldwide Responsible Care® initiative developed by companies in the global chemical industry.

For the year ended December 31, 2004, Bayer reported total sales of €29,758 million, an operating result of €1,808 million, and a net income of €603 million. Sales from continuing operations amounted to €23,045 million. As of December 31, 2004, we employed 113,000 people worldwide. Based on customers’ location, Bayer’s activities in the Europe region accounted for 43 percent of the group’s total sales in 2004; North America for 28 percent of sales; the Asia/ Pacific region amounted to 17 percent; and the region Latin America/ Africa/ Middle East accounted for 12 percent of total sales.

With effect from January 1, 2004, we have adjusted our segment reporting and restated the financial information of previous years to reflect the realignment of the Bayer Group. Haarmann & Reimer (formerly part of the Chemicals segment) and PolymerLatex (formerly part of the Plastics, Rubber segment), which were divested in 2002 and 2003, respectively, are now shown as part of the Reconciliation.

The following table shows the external sales per subgroup and respective reporting segments for the last three years.


	2002		2003		2004

	(Euros in millions)
HealthCare		9,372		8,871		8,485
Pharmaceuticals, Biological Products		4,767		4,745		4,388
Consumer Care, Diagnostics		3,755		3,336		3,311
Animal Health		850		790		786
CropScience		4,697		5,764		5,946
MaterialScience		7,659		7,453		8,597
Materials		2,875		2,777		3,248
Systems		4,784		4,676		5,349
LANXESS		6,241		5,776		6,053
Reconciliation		1,655		703		677
Total Bayer Group		29,624		28,567		29,758

BAYER HEALTHCARE

PHARMACEUTICALS, BIOLOGICAL PRODUCTS

Overview

This segment comprises the Pharmaceuticals and Biological Products divisions. It formerly consisted of a single division responsible for both pharmaceutical and biological products. Beginning in 2002, we have

organized the segment internally into two separate divisions. The following table shows the segment’s performance for the last three years.


		2002			2003			2004

		(Euros in millions)
External net sales			4,767			4,745			4,388
	Percentage of total sales		16.1			16.6			14.7
	thereof discontinuing operations		679			613			660
Intersegment sales			33			51			42
Operating result			(200	)		(408	)		302
	thereof discontinuing operations		(113	)		(349	)		(56	)
	thereof special items⁽¹⁾		(333	)		(832	)		(148	)


⁽¹⁾	The significant special items are detailed in Item 5, Operating and Financial Review and Prospects — Operating Results 2002, 2003 and 2004 — Segment Data.

The segment’s sales by region for the past three years are as follows:


		2002		2003		2004

		(Euros in millions)
Europe			1,411		1,419		1,582
North America			2,084		2,154		1,565
Asia/ Pacific			884		809		854
Latin America/ Africa/ Middle East			388		363		387

	Total		4,767		4,745		4,388

Our Pharmaceuticals business unit generated €3,688 million sales in 2002, €3,635 million in 2003 and €3,166 million in 2004, whereas our Biological Products business unit generated €1,079 million in 2002, €1,110 million in 2003 and €1,222 million 2004. The following table shows our sales during the past three years from the products that account for the largest portion of segment sales.


	2002				2003				2004

			Percentage of				Percentage of				Percentage of
Product	Sales		Segment Sales		Sales		Segment Sales		Sales		Segment Sales

	(Euros in				(Euros in				(Euros in
	millions)				millions)				millions)
Ciprobay®/ Cipro® (Pharmaceuticals)		1,411		29.6		1,411		29.7		837		19.1
Adalat® (Pharmaceuticals)		800		16.8		676		14.2		670		15.3
Kogenate® (Biological Products)		400		8.4		497		10.5		563		12.8
Gamimune® N/Gamunex® (Biological Products)		333		7.0		304		6.4		343		7.8
Avalox®/ Avelox® (Pharmaceuticals)		280		5.9		299		6.3		318		7.2
Glucobay® (Pharmaceuticals)		287		6.0		273		5.8		278		6.3
Levitra® (Pharmaceuticals)		6		0.1		144		3.0		193		4.4
Trasylol® (Pharmaceuticals)		154		3.2		157		3.3		171		3.9
Prolastin® (Biological Products)		151		3.2		166		3.5		166		3.8
Other		945		19.8		818		17.3		849		19.4

Total		4,767				4,745				4,388

Segment Strategy


	*Pharmaceuticals*

In connection with the new alignment of the Bayer Group, we have begun to position Pharmaceuticals as a medium-sized enterprise with the appropriate structures. We focus on the areas: Infectious Diseases, Cardiovascular Risk Management including Diabetes, Urology and Oncology.

The strategic priorities include:


	•	focusing our research activities on the areas: Cardiovascular Risk Management including Diabetes and Oncology; and

	•	working on regional co-operations, alliances and licensing, all as appropriate in light of the local circumstances.

In addition to our immediate priorities, life cycle management remains a continuing element of our strategy. Successful life cycle management enables us to extend the commercial success of established products. See — Research and Development — Life Cycle Management.

Bayer HealthCare decided to adopt a global pharmaceutical research and development initiative to suit changed business conditions in the Pharmaceuticals division, by bringing research and development in line with the Pharmaceuticals division’s strategy of concentrating on specific therapeutic segments and increasing regional differentiation. This global initiative allows greater efficiencies and focus with respect to specific therapeutic segments, allowing headcount reductions and other cost cutting measures. See — Research and Development.

In 2004, we entered into a strategic alliance with Schering-Plough. See — Markets and Distribution.


	*Biological Products*

Our strategic priority for the Biological Products division in the medium-term future is to focus on growth of the Kogenate® brand while maintaining profitability. To achieve this, the Kogenate® strategy is to continue to aggressively differentiate Kogenate® from competitors’ products and gain market share by improving our focus on patient needs, shifting current therapy paradigms and enabling severe bleeders to enjoy a higher quality of life.

Pharmaceuticals


	*Overview*

Our Pharmaceuticals division focuses on the development and marketing of ethical pharmaceuticals. Ethical pharmaceuticals are medications requiring a physician’s prescription and are sold under a specific brand name.


	*Major Products*

Ciprofloxacin, marketed under the trademark Cipro®, mainly in the United States, and Ciproxin®, Ciproxine®, Ciprobay®, Ciproxina®, Baycip®, Ciflox® and Uniflox® in other countries, is a broad-spectrum antimicrobial agent of the fluoroquinolone class. Cipro® is our leading pharmaceutical product in terms of sales. Cipro®’s main uses are in the treatment of urinary tract infections and in severe hospital infections. It is also approved for the treatment of anthrax. In June 2004, market exclusivity for the active pharmaceutical ingredient in Cipro® expired in the United States.

Adalat® is the brand name for nifedipine, a representative of the dihydropyridine class of calcium antagonists. Calcium plays an important role in the body’s regulation of blood pressure and the supply of blood to the heart tissues. Calcium antagonists can reduce blood pressure and improve blood supply to heart tissue.

Moxifloxacin, marketed under the trade name Avelox®, mainly in the United States, and Avalox®, Izilox®, Actira® and Octegra® in other countries, is an antibiotic used to treat common bacterial respiratory tract infections. It is indicated for the treatment of community-acquired pneumonia, acute exacerbations of chronic bronchitis, acute sinusitis and uncomplicated skin and skin structure infections.

Acarbose®, marketed under the trademark Glucobay®, Glucor® in most countries, Precose® (in the United States) and Prandase (mainly in Canada) is an oral antidiabetic product that delays carbohydrate digestion. Glucobay® improves metabolic control in diabetics alone or in combination with other antidiabetic drugs.

Trasylol® is a natural proteinase inhibitor obtained from bovine lung tissue. Used prophylactically, it reduces blood loss during coronary bypass surgery, reducing the patient’s need for blood transfusions.

Vardenafil, our erectile dysfunction medication marketed under the trade name Levitra®, has been launched in the United States and all of our major markets. We market the product in co-operation with GlaxoSmithKline in some markets and also jointly perform life cycle management. See Item 8, Financial Information — Legal Proceedings for a discussion of the intellectual property status in the United States of Levitra® and other erectile dysfunction medications.

CardioAspirin (e.g., Aspirin® Protect in Germany and Aspirin Regimen Bayer in the United States) refers to Bayer’s collective group of products (in both our Consumer Care and Pharmaceuticals divisions) that are professionally indicated for the prevention of a MI (myocardial infarction or heart attack) in either those individuals who have already had an initial MI (secondary prevention) or in individuals deemed at risk for a first MI by their physician (primary prevention). These products vary in status (whether or not a prescription is required) based on local regulations. We face competition in the cardiovascular marketplace from both over-the-counter and prescription drugs which claim secondary and/or primary prevention benefits.


	*Markets and Distribution*

The Pharmaceuticals division’s principal markets are North America, Western Europe and Asia (especially Japan).

We do not experience any significant seasonality.

We generally distribute our products through wholesalers, pharmacies and hospitals as well as, to a certain extent, directly to patients. Where appropriate, we actively seek to supplement the efforts of our sales force through co-promotion and co-marketing arrangements. In November 2001, we entered into a co-promotion agreement with GlaxoSmithKline for Levitra® (vardenafil), our erectile dysfunction medication. In January 2005, we terminated the Levitra® co-promotion agreement with GlaxoSmithKline in most of the world outside of the United States. This enables us to exercise the marketing rights ourselves. In September 2004, we entered into a strategic alliance with Schering-Plough. Under this alliance, Schering-Plough will market and distribute selected primary care pharmaceutical products in the United States, e.g., Cipro®, Avelox® and Levitra®. Furthermore, we will co-promote certain Schering-Plough oncology products for a certain period of time in the United States and selected major European markets; e.g., in Germany, France and Italy. Both parties intend to cooperate in marketing Schering-Plough’s Zetia® in Japan after its approval by the Japanese regulatory authorities.

We currently produce the active ingredients for our ethical pharmaceutical products almost entirely in Wuppertal, Germany. Bayer facilities throughout the world compound our raw materials and package the finished product for shipment. Our main pharmaceutical production facilities are in Leverkusen, Germany; Garbagnate, Italy; and Shiga, Japan.

We obtain the raw materials for our active ingredients in ethical pharmaceuticals, partly from the spun-off subgroup LANXESS and partly from third parties mainly in Europe and Asia. We maintain strategic reserves of our products to avoid breaks in the supply chain. Where a required material is available from only one supplier, our policy is to amass a strategic reserve, while mounting an intensive search for potential alternative suppliers. We obtain additional ingredients and packaging materials from diverse suppliers on a worldwide basis. For building blocks and intermediates, used to manufacture active ingredients, we either approve several suppliers or enter into global contracts. This also helps us to reduce the effects of price volatility.

We encounter competition in all of our geographical markets from large national and international competitors. Our main competitors are Pfizer, GlaxoSmithKline, and Abbott Laboratories in the antibacterial products market; Pfizer, Novartis, AstraZeneca and Merck & Co. in the area of hypertension and coronary heart

disease therapy; Takeda, GlaxoSmithKline, Aventis and Bristol-Myers Squibb in the oral antidiabetics market; and Pfizer and Eli Lilly in the erectile dysfunction market.


	*Research and Development*

Bayer HealthCare allocates the largest part of its research and development budget to the Pharmaceuticals division. Within this division, we focus our research and development activities on therapeutic areas in which we believe there is a high degree of inadequately met medical need and where we expect our research and development investment to yield high productivity.

We have decided to adopt a global pharmaceutical research and development initiative as previously discussed under — Segment Strategy (including headcount reduction) to suit changed business conditions in the Pharmaceuticals division, by bringing research and development in line with the Pharmaceuticals division’s strategy of concentrating on specific therapeutic segments and increasing regional differentiation. In the future, research at Bayer HealthCare will concentrate on the therapeutic fields of cancer and cardiovascular risk management including diabetes at its sites in West Haven, Connecticut, and Wuppertal, Germany. The Research Center in West Haven, Connecticut will focus on cancer and diabetes. Activities in the Wuppertal Research Center are concentrated in the field of cardiovascular risk management relating to coronary heart disease and thrombosis.

Development projects in other therapeutic segments such as anti-infectives and urology will be continued until the next development stage has been reached. We subsequently plan to examine different internal and external options for exploiting the potential of these projects, and related technologies and patents. New active substance classes for the treatment of viral and bacterial infections or urological disorders are no longer on the research agenda.

At the same time, the Pharmaceuticals division will establish its own unit for product-related research in Wuppertal. This unit will be assigned the task of exploiting the potential of late-stage development candidates and products that have already been launched on the market, including what is known as life cycle management, i.e., the further development of marketed drug products and the scientific assessment of licensing projects.

Biotechnology respiratory projects of the Pharmaceuticals division were contributed to a new company, Aerovance, by way of a contribution in kind in exchange for a minority equity stake in the company. Aerovance, which is based in Berkeley, California, will continue the development and future commercialization of these projects.


	Life Cycle Management

We apply life cycle management measures to our marketed products to expand the scope of possible treatment opportunities by identifying new indications and improved formulations. Adalat® is a prime example of successful life cycle management: nineteen years after the patent protection for the active ingredient nifedipine, its key component, expired, the drug generated €670 million in sales in 2004. Similarly, we are implementing life cycle management measures, such as improved formulations and dosage forms, for other major products.


	Phase II/ III Trials

BAY 59-7939 is an oral direct Factor Xa inhibitor, being developed to meet currently unmet clinical needs in the anticoagulation market for prevention and treatment of thrombotic events. Phase IIb trials are ongoing.

In 2004, the United States Food and Drug Administration (FDA) granted BAY 43-9006 fast track and “orphan drug” designation for the treatment of metastatic renal cell carcinoma, an advanced form of kidney cancer. “Orphan drug” designation has also been granted in the EU by the Committee for Orphan Medicinal products (COMP) of the European Medicines Agency (EMEA). BAY 43-9006, co-developed by Bayer and Onyx, is a novel Raf Kinase and VEGFR inhibitor that is intended to prevent tumor growth by combining two anti-cancer activities: inhibition of tumor cell proliferation and tumor angiogenesis. It is currently undergoing Phase III evaluation for the treatment of advanced kidney cancer and Bayer and Onyx intend to initiate additional Phase II and Phase III trials in other tumor types.

Drug candidates in Phase II/ III of clinical development are listed in the following table with their respective indications:


Project	Indication		Status

Factor Xa inhibitor		Thrombosis		In Phase II
Raf Kinase & VEGFR inhibitor		Cancer		In Phase III

The listed compounds represent a snapshot of the Bayer pipeline. The nature of drug discovery and development is such that not all compounds can be expected to meet the pre-defined project target profile, so it is possible that the above listed projects under clinical development may have to be discontinued due to scientific and/or commercial reasons and will not result in marketed products. It is also possible that the requisite FDA, EMEA or other regulatory approval will not be granted for our Factor Xa inhibitor or our Raf Kinase and VEGFR inhibitor.

The development program for repinotan, a substance for the treatment of acute ischemic stroke patients, was terminated in December 2004. Repinotan did not meet the primary endpoints of a Phase IIb clinical trial and the anticipated clinical benefit could not be demonstrated. Other options for the future of this compound are being considered. It was decided to discontinue development of Novel Taxane since the data from recently completed Phase II clinical studies did not meet the pre-defined clinical target profile. Development activities for the PDE IV inhibitor were stopped and further options to exploit the potential of the compound are under investigation.


	Microbial resistance to antibiotics

The development by microbes of resistance to antibiotics is a cause for concern for the medical community. Resistance development is a natural process. It is almost certainly impossible to be eliminated altogether. Although emergent ciprofloxacin or moxifloxacin resistance could become a problem on an isolated, individual-patient basis, we do not believe that microbial resistance will impair the general clinical usefulness of these two products in large patient populations in the foreseeable future.

We actively encourage health care professionals to adopt standards of appropriate antibiotic use to avoid facilitating the development of resistance. To provide physicians and patients with information on how they can use antibiotics appropriately, we have initiated the LIBRAINITIATIVE.COM project to collect data on bacterial resistance on a global basis.


	*Collaborations*

To supplement our internal research and development efforts, we have established an integrated program for collaborations with research-oriented companies that are leaders in their technologies. Our research collaboration program brings together major research companies to create a pool of expertise covering the entire research cycle, from discovery of pharmaceutical mechanisms through characterization of new active compounds to identification of a novel development candidate.


	Research Collaborations

The following table illustrates the phases of the typical pharmaceutical research cycle, the various disciplines and techniques involved and the major companies that provide us with active assistance in our research efforts.


Research Cycle	Discipline/Technique	Research Company

Understanding the disease mechanism and identifying new targets	Functional genomics (functional analysis of genetic data)	Millennium; Affymetrix; CuraGen
	Proteomics (mapping protein expression and function in an organism or tissue)/Target Validation	Galapagos; Pharmagene; Dharmacon; Cenix; Cellzome; Artemis
	Bioinformatics (applying the tools of Information Technology to biological data analysis)	Lion Bioscience
Screening the candidate substances	High-throughput screening (rapid, automated testing of compounds for potential effectiveness against a given target)	Axxam; Discovery Partners
	Toxico- and Pharmacogenomics (increasing the quality and probability of success of drug candidates)	CuraGen
Increasing the pool of potential drug candidates by small-chemical molecules and macromolecules (proteins, peptides)	Combinatorial chemistry (techniques for increasing the number and diversity of test compounds)	ComGenex
	X-ray crystallography	Structural Genomix
	Pharmacophore informatics	Lion Bioscience
	Pool of Bayer biomolecules (for example, monoclonal antibodies and conjugates)	Morphosys; Seattle Genetics

Three of our research collaborations — those with Millennium Inc., LION Bioscience and CuraGen — are or have been of particular importance.


	Millennium

We had engaged in a substantial collaborative effort with Millennium to use the tools of genomics to identify new drug targets. The collaboration ended, as planned, in October 2003, but was amended to provide Bayer extended access for up to seven years to a pool of more than 280 additional proprietary targets which have for technical reasons not yet been configured into assays. At the end of the seven-year period, the targets remaining in the pool will be returned to Millennium.


	LION Bioscience

We had established two collaboration projects with LION Bioscience, a bioinformatics technology provider, both of which were completed in 2004. Under the first project, LION established a subsidiary in Cambridge, Massachusetts, LION Bioscience Research Inc. (LBRI). LBRI provided our life sciences effort with a strong IT platform and software development program and allowed us to review drug-relevant target gene data for further use in our laboratories. The option to acquire LBRI after completion of the collaboration in June 2004 was not exercised. The second collaboration project in the field of pharmacophore informatics resulted in the development

of software tools to cross-link biological and chemical data. This project was successfully completed in October 2004. We are currently in the process of finalizing a follow-up pharmacophore informatics development agreement.


	CuraGen

In 2001, we initiated two collaborative projects with CuraGen. In the first project, CuraGen agreed to provide drug targets during an initial five-year period. The goal is to identify drug candidates for obesity and diabetes treatment for clinical development over a 15-year period. Our agreement provides that, during this period, we will share the expenses of pre-clinical and clinical development. In October 2004, Bayer and CuraGen advanced an investigational compound from this collaboration for the treatment of Diabetes to the pre-clinical phase of drug development. The goal of the second project is to compile a database of gene-based markers and information to predict potential drug toxicities, understand how specific drugs function and identify new disease conditions.


	Product Development Collaborations

The major collaborations in the area of product development are described below:


	Onyx

Bayer and Onyx are co-developing Bay 43-9006, a novel Raf Kinase and VEGFR inhibitor that is intended to prevent tumor growth by combining two anti-cancer activities: inhibition of tumor cell proliferation and tumor angiogenesis. This collaboration results in Onyx funding 50 percent of the development costs for this compound. In return, Onyx has a 50 percent profit share in the United States, where the companies may co-promote the product. Everywhere else in the world except Japan, Bayer intends to market the product exclusively and will share the profits equally with Onyx. In Japan, Bayer will develop and market the product exclusively and Onyx will get a royalty.


	Schering-Plough

In September 2004, Bayer entered into a strategic alliance with Schering-Plough. The alliance also includes co-operation in life cycle management mainly for Avelox® and Levitra®.


	GlaxoSmithKline

Vardenafil, the active ingredient of Levitra®, researched by Bayer, is being marketed in co-operation with GlaxoSmithKline in some markets. The co-operation also includes life cycle management. In January 2005, we terminated our Levitra® co-promotion agreement with GlaxoSmithKline in most of the world outside of the United States in order to exercise the marketing rights ourselves.


	Paratek

The Collaborative Development and License Agreement with Paratek Pharmaceuticals for a novel aminomethylcycline antibiotic was terminated in 2004.


	Indena

It was decided to discontinue development of Novel Taxane since the data from recently completed Phase II clinical studies did not meet the pre-defined clinical target profile. Therefore, this collaboration with Indena was terminated in 2004.


	In-licensing activities

We supplement our portfolio of products of our own research and development with in-licensed products, both on a global and a national level. Recent examples are Zetia®, a remedy to treat hypercholostemia, which we intend to co-market with Schering-Plough in Japan, and Emselex®, a remedy to treat urinary incontinence, which

we will distribute for Novartis in Germany. Zetia® is presently under regulatory review in Japan (and has been launched elsewhere). Emselex® has been launched in January 2005.

Biological Products


	*Overview*

Our Biological Products division focuses on recombinant protein therapies and biological products (for example, blood plasma products).

In December 2004, Bayer AG announced that an agreement had been signed to sell the assets of its worldwide plasma products business to a newly-formed corporation controlled by affiliates of Cerberus Capital Management, L.P., New York, New York and Ampersand Ventures, Wellesley, Massachusetts. The agreement covers the products, facilities and employees representing the plasma portion of the division. Key products include Polyglobin®, Gamimune® N, Gamunex® and Prolastin®. The Kogenate® business is not affected by this agreement.


	*Major Products*


	Kogenate®

Kogenate® FS (Kogenate® Bayer in the EU) is a genetically engineered recombinant version of the protein FVIII. Patients with Hemophilia A cannot produce sufficient FVIII, and their blood therefore cannot clot properly. Physicians use both plasma-derived and recombinant FVIII to treat Hemophilia A. Because recombinant products like Kogenate® do not derive from human donors, the risk that their users will inadvertently contract infection with HIV, hepatitis or other viruses occasionally present in plasma-derived products is greatly reduced.

We supply recombinant FVIII to ZLB Behring (established in connection with the acquisition of Aventis Behring by CSL Ltd.) which markets it under the brand name Helixate® FS.


	Plasma Products (our plasma business will be sold)

Gamunex® is a plasma-derived concentrate of human antibodies (chromatography-purified Immune Globulin Intravenous or IGIV-C) registered with the health authorities in the United States (August 2003), Canada (August 2003) and Germany (February 2004). Gamunex® represents the first completely new IGIV therapy development by Bayer.

Gamimune®/Polyglobin® is a plasma-derived concentrate of human antibodies (IGIV). Physicians use it to treat immune system deficiencies as well as for the treatment of some autoimmune disorders, in which the immune system mistakenly attacks the body’s own tissues.

Prolastin® (alpha1-proteinase inhibitor human) is a plasma-derived product, used for chronic therapy in individuals with emphysema related to congenital alpha1-antitrypsin (AAT) deficiency. AAT deficiency is an inherited disorder that causes insufficient AAT in the body. This deficiency can cause serious lung disease and, ultimately, emphysema.


	*Markets and Distribution*

The Biological Products division’s principal markets are North America, Europe and Japan.

We generally distribute our products through governmental agencies, wholesalers, pharmacies and hospitals as well as, to a certain extent, directly to patients.

We do not experience any significant seasonality.

We produce plasma-derived products and, under a license from Genentech, recombinant FVIII at our facilities in Clayton, North Carolina and Berkeley, California in the United States. We obtain raw plasma as well as some intermediates and supplies for plasma-derived products from third-party U.S. suppliers. As Biological

Products does not own plasma collection centers, we have to buy raw plasma from third-party collection centers or other manufacturers. The price and availability of raw plasma depends on the available donor base, ongoing consolidation between larger collectors and regulatory procedures. For our product Kogenate®, we obtain raw materials and packaging materials from diverse third-party suppliers worldwide. As a rule, we approve our suppliers for each required material. Where a required material is available from only one supplier, our policy is to amass a strategic reserve. We currently obtain a plasma-derived intermediate for Kogenate® from the Clayton facility. Upon successful divestiture of the Clayton facility, our Berkeley facility intends to purchase the plasma-derived intermediate from the new owner.

Our main competitors in the blood coagulation, proteinase inhibitors and immune globulins markets are Baxter and ZLB Behring.


	*Research and Development*

Key research and product development projects include Kogenate® — Next Generation, Kogenate® BIOSET, Prolastin® (Alpha C), and IGIV-C (Gamunex®) Expanded Indications.


	Phase II/III Trials


Product	Indication	Status

IGIV-C	Multiple Sclerosis — New Indication		Phase II
IGIV-C	ITP (idiopathic thrombocytopenic purpura) Rapid Infusion		Phase III
IGIV-C	CIDP — New Indication (Chronic inflammatory demyelinating polyneuropathy)		Phase III
IGIV-C	PID (primary immune deficiency) Rapid Infusion		Phase III


	Kogenate® — Next Generation

We have identified five constructs for potential Kogenate® — Next Generation development; evaluation of proteins and technology is ongoing and the decision to proceed with the initiation of clinical trials is targeted for 2005.

In June 2003, Bayer signed an exclusivity agreement with Opperbas Holding B.V. for use of Kogenate® FS in proprietary formulation development. In August 2004, Bayer and Opperbas Holding B.V. signed a binding term sheet describing exclusive licensing and development milestones.

In November 2004, Bayer signed a license agreement with Zilip-Pharma, a subsidiary of Opperbas Holding B.V., under which Zilip-Pharma granted Bayer rights to develop Zilip’s patented liposome technology for Factor VIII. Bayer plans to develop and commercialize a new, long-lasting Kogenate® product and start Phase 1 trials utilizing Kogenate® FS in combination with liposome technology in 2005.

The agreement with Avigen, signed in 2000, to develop Factor IX gene therapy for Hemophilia B patients, was terminated.


	Kogenate®-FS BIO SET® Delivery System

Kogenate® with BIO-SET® is a recombinant Factor VIII with a self-contained delivery system that eliminates the risk of accidental needlestick injuries during reconstitution. The application for approval in the United States was submitted to the FDA in the fourth quarter of 2003. BIO-SET® received regulatory approval from Health Canada in May 2004 and in Europe from the Commission of the European Union in September 2004. A phased global launch is planned to begin in 2005.


	Plasma Products (our plasma business will be sold)


	Prolastin® — Aerosolized AAT and Alpha-1 MP

The Alpha-1 Modified Process (Alpha-1 MP; formerly Alpha-C) project is the development of an improved Alpha-1 Proteinase Inhibitor (A1-Pi, Prolastin®) with greater purity and higher yield. It will be developed as an

intravenous formulation to treat congenital Alpha-1 antitrypsin (AAT)-deficient patients and as an aerosol to treat patients suffering from Cystic Fibrosis (CF). The intravenous pharmacokinetic trial and a safety study in AAT deficient patients is planned to start in the first half 2005 with an anticipated launch in the United States in late 2007.

In October 2003, Bayer acquired exclusive rights for a new advanced inhalation technology (AKITA) for the administration of A1-Pi from Inamed GmbH, Germany. A launch of the aerosol for treatment of CF patients is expected in the United States in 2010.


	IGIV-C — Expanded Indications

A number of studies are being conducted to enhance marketability of Gamunex®. For the purpose of obtaining labeling for new indications, a Phase II multiple sclerosis trial is planned to be completed in 2005; and a Phase III CIDP (neuropathy) trial is planned to be completed in 2006. To support existing indications, rapid infusion in PID Phase III (primary immune deficiency) and ITP Phase III (ideopathic thrombocytopenic purpura) patients was completed in 2004 and submitted to the FDA for rapid infusion labeling.


	*R&D Facilities*

The division’s main research and development facilities are located in the United States, specifically in Clayton, North Carolina, for Bioanalytic Development and Plasma Technology and Berkeley, California, for Process Technology (Kogenate®).

CONSUMER CARE, DIAGNOSTICS


	*Overview*

This segment comprises the Consumer Care, Diagnostics and Diabetes Care divisions. On June 1, 2004, the former Diagnostics division was divided into two divisions (Professional Testing Systems and Self Testing Systems), which are now named Diagnostics and Diabetes Care, respectively.

The following table shows the segment’s performance in the last three years.


		2002		2003		2004

		(Euros in millions)
External net sales			3,755		3,336		3,311
	Percentage of total sales		12.7		11.7		11.1
Intersegment sales			2		4		18
Operating result			593		601		400
	thereof special items⁽¹⁾		214		268		(30	)


⁽¹⁾	The significant special items are detailed in Item 5, Operating and Financial Review and Prospects — Operating Results 2002, 2003 and 2004 — Segment Data.

The segment’s sales by region for the past three years are as follows:


		2002		2003		2004

		(Euros in millions)
Europe			1,194		1,122		1,186
North America			1,581		1,504		1,440
Asia/ Pacific			456		302		289
Latin America/ Africa/ Middle East			524		408		396

	Total		3,755		3,336		3,311

The following table shows our sales during the past three years by division:


Division		2002		2003		2004

		(Euros in millions)
Consumer Care			1,716		1,403		1,336
Diagnostics (formerly Professional Testing Systems)			1,310		1,308		1,322
Diabetes Care (formerly Self Testing Systems)			729		625		653

	Total		3,755		3,336		3,311

2004 sales of the segment’s material products were €627 million for the Ascensia® brand (representing 18.9 percent of total segment sales; compared to €578 million, or 17.3 percent, in 2003 and €689 million, or 18.3 percent, in 2002), €615 million for Aspirin®⁽¹⁾ (representing 18.6 percent of total segment sales; compared to €574 million, or 17.2 percent, in 2003 and €589 million, or 15.7 percent, in 2002) and €441 million for the Advia® Centaur System (representing 13.3 percent of total segment sales; compared to €387 million, or 11.6 percent, in 2003 and €340 million, or 9.1 percent, in 2002). Apart from these three products, no product of this segment accounted for more than 5 percent of total segment sales in 2004, 2003 or 2002.

Segment Strategy


	*Consumer Care*

The objective of our Consumer Care division is to outpace market growth in the over-the-counter (OTC) market and to improve our global position.

The key strategic focus to exploit our organic growth potential is on our analgesics business, mainly through Aspirin®. In parallel, we are considering further external growth opportunities in order to strengthen both our product portfolio and our regional presence. On July 19, 2004, Bayer announced that it had agreed to acquire Roche Consumer Health. Additionally, Bayer will acquire Roche’s 50 percent share of the 1996 Bayer/ Roche joint venture in the United States and five production sites. The combined organization will have its global headquarters in Morristown, New Jersey. The transaction had, for the most part, closed by January 1, 2005. On December 10, 2004, it was announced that Bayer HealthCare had entered into an agreement with Bristol-Myers Squibb under which Bayer Consumer Care would handle OTC sales and marketing for Pravachol® (pravastatin) 20mg in the United States, should the FDA approve OTC use of the drug. Bristol-Myers Squibb additionally announced on December 10, 2004 its intent to pursue FDA approval of Pravachol® (pravastatin sodium) as an OTC cholesterol-lowering therapy.


	*Diagnostics*

Our Diagnostics division consists of four strategic areas: Central Laboratory Testing, Near Patient Testing, Molecular Testing (former Nucleic Acid Diagnostics) and Viterion TeleHealthcare LLC as a joint venture with Matsushita Electric Industrial Co., Ltd.

The overall objective of Diagnostics is to exceed industry sales growth rates in the markets where we compete and to achieve a long-term sustainable position with above industry average profitability.

We strive to reach these objectives by introducing innovative solutions to improve the overall operating efficiencies of our diagnostics customers by focusing our efforts in building a product portfolio with breadth and depth.


	*Diabetes Care*

The Diabetes Care division’s objective is to increase market share and improve profitability to reach average industry benchmarks.


⁽¹⁾	The figures include CardioAspirin, which is partially distributed by our Pharmaceuticals division.

To achieve our overall goal in the Diabetes Care division, we are expanding our product offering by developing second and third generations of meters and strips that are more intuitive and easier to use, resulting in glucose testing with minimal pain for diabetic patients. To support our objectives, we continue to develop our strategic partnerships in desired areas of expertise to complement our in-house strengths.

Consumer Care


	*Overview*

Our Consumer Care division develops and markets OTC medications (analgesics, cough and cold, dermatological and gastrointestinal remedies), as well as vitamin and nutritional supplements.


	*Major Products*


	Analgesics

The analgesics market comprises pain relief products both in oral form (for example, pills and tablets) and for topical use (for example, ointments and salves). We concentrate primarily on the oral products segment. Our OTC products face competition from prescription drugs, for example cyclooxygenase (COX-II) inhibitor pain relievers.

Aspirin® (Bayer® brand aspirin in the United States) is a nonsteroidal anti-inflammatory drug (NSAID). It is used for pain relief and, in countries where so indicated, for the prevention of heart attacks. Aleve® is a nonprescription strength version of the analgesic naproxen sodium. Aleve® is a long-lasting pain reliever and can be used for fever reduction. Our Midol® product family, which competes in the menstrual pain relief category, comprises several specific products, for example, Maximum Strength Menstrual Formula, Teen Formula, PMS and Cramp Pain and, in 2004, we introduced Midol® Extended Relief ^(tm).


	CardioAspirin (see — Pharmaceuticals — Major Products)

CardioAspirin (e.g., Aspirin® Protect in Germany and Aspirin Regimen Bayer in the United States) refers to Bayer’s collective group of products (in both our Consumer Care and Pharmaceuticals divisions) that are professionally indicated for the prevention of an MI (myocardial infarction, or heart attack) in either those individuals who have already had an initial MI (secondary prevention) or in individuals deemed at risk for a first MI by their physician (primary prevention). These products vary in status (whether or not a prescription is required) based on local regulations. We face competition in the cardiovascular marketplace from both over-the-counter and prescription drugs which claim secondary and/or primary prevention benefits.


	Cough/ Cold

Within the total cough and cold market, we concentrate on the cold/flu remedy segment. This OTC category faces threats from “non-medicinal” remedies (for example, nutritional or herbal products), as well as from preventive medicines available by prescription or under development.

Alka-Seltzer Plus®, marketed in the United States, is a product to relieve symptoms accompanying the common cold. Tabcin®, primarily marketed in Latin America, is a product line similar to Alka-Seltzer Plus®. Aleve® Cold & Sinus is a long-lasting combination of analgesic naproxen sodium and nasal decongestant.


	Dermatologicals

The dermatological category includes a broad range of skin treatments. Within this market, we focus on the antifungal category, which in turn consists of three sub-segments: gynecological, dermatological and general topical/other antifungals. All topical dermatologicals face significant threats from the prescription drug area, as well as from locally marketed generic products and low-price brands.

Canesten® is a treatment for vaginal yeast infections, athlete’s foot and other dermatological fungal problems. Rid® is a topical head lice treatment marketed only in the United States.


	Gastrointestinals

The gastrointestinal (GI) category includes antacids, anti-gas products, digestives, laxatives and anti-diarrheals.

Alka-Seltzer® is used for speedy relief of acid indigestion, sour stomach or heartburn with headache, or body aches and pains. Phillips’ Milk of Magnesia® is a saline laxative used as an overnight remedy for constipation and acid indigestion, heartburn or sour stomach that may accompany it. Talcid® is used for the relief of symptoms from heartburn and acid indigestion.


	Nutritionals

The nutritionals category is very broad, encompassing vitamins, minerals, multi-vitamins/minerals, herbals, sports nutrition and specialty supplements in many different forms. Applicable regulations vary greatly, both from country to country and across nutritional segments (for example, herbals vs. vitamins). As a general rule, however, regulation of nutritionals tends to be less stringent than that of other OTC products. Bayer’s primary interests in the nutritionals field are in the vitamin and mineral (especially multi-vitamins/minerals) areas.

One-A-Day® multivitamins offer a variety of special formulations, such as Men’s, Women’s, 55 Plus, Maximum, Essential and WeightSmart^tm formulas. Flintstones® are multivitamin dietary supplements containing (depending on type) 10-19 essential nutrients for children ages 2-12.

Major brands acquired in the Roche Consumer Health acquisition include Supradyn®, Bepanthen®, Rennie®, Redoxon®, Aleve®, Flanax® and Berocca® (formerly, Aleve® sales and profits in the United States were shared with Roche as part of the Bayer/ Roche joint venture — see Consumer Care, Diagnostics — Segment Strategy — Consumer Care).

In 2004, we launched Midol® Extended Relief ^(tm) and several new One-A-Day line extensions.


	*Markets and Distribution*

Our Consumer Care division focuses on the OTC market for medicinal products that consumers may generally purchase without a prescription.

The division experiences moderate seasonality, primarily due to the cough/cold market.

The typical sales and marketing channels of the division outside Europe are supermarket chains, drugstores and other mass marketers. In Europe, however, pharmacies are the usual distribution channel.

Consumer Care procures some high-volume raw materials internally from within Bayer HealthCare. Our major externally procured high-volume raw materials are sodium citrate, sodium bicarbonate, citric acid and ascorbic acid. These are readily available and are usually not subject to significant price fluctuations. Changes in oil and energy prices can affect a few key items, such as phenol, a basic material for our major ingredient acetylsalicylic acid and aluminum foil. We diversify our raw materials sources internationally to help balance business risk.

We regard GlaxoSmithKline, Johnson & Johnson, Pfizer and Wyeth as our major competitors in the Consumer Care business.


	*Research and Development*

Consumer Care focuses its research and development activities on identifying, developing and launching products and initiatives that can contribute to achieving business growth through:


	•	efficient development of new products and indications to support current brands; and

	•	product development, clinical and regulatory strategies, which provide opportunity to capitalize on new technologies, expanded label indications and reclassifications of products from those for which a prescription is required to those dispensed over-the-counter.

The division’s primary research and development facilities are located in Morristown, New Jersey. After the acquisition of the Roche Consumer Health business, research and development for the new organization is performed at Bayer Consumer Care headquarters in Morristown, New Jersey and at the Roche Consumer Health site in Gaillard, France.

Diagnostics


	*Overview*

The Diagnostics division is headquartered in Tarrytown, New York. We support customers with an extensive portfolio of products for the Central Laboratory, Near Patient Testing, and Molecular Testing environments. These products serve in the assessment and management of health in such areas as infectious diseases, cardiovascular disease, oncology, virology, women’s health and the home health care sector.


	*Major Products*


	Central Laboratory Testing (formerly Laboratory Testing)

The ADVIA® family of products is the centerpiece of our Central Laboratory Testing portfolio, which provides a wide range of solutions for the laboratory. ADVIA® products include medium- and high-throughput systems for immuno-diagnostics (the measurement of such substances as proteins, steroids, drugs and antibodies in patients’ blood), clinical chemistry, hematology and other diagnostic disciplines. The main systems include ADVIA Centaur®, Advia®2400 and, for the laboratory integration and automation solutions, LabCell® and WorkCell^(TM). In addition to broadening our ADVIA® product line, we have continued to strengthen its market position in 2004 with the introduction of two FDA-approved Hepatitis B assays: anti-HBc IgM and anti-HBs. FDA approval for three additional Hepatitis assays (two Hepatitis B and one Hepatitis C) was received in late 2004. These assays will be launched in 2005. FDA clearance was also received for two additional claims for our BNP test, a high-value cardiac marker.


	Near Patient Testing

We provide a variety of solutions for the Near Patient Testing environment, both in the hospital and in physicians’ office laboratories. For the critical care environment, we offer the Rapid^(TM) family of instruments and reagents for the measurement of blood gases and electrolytes. In the field of urinalysis, we offer the Multistix® family of urine reagent strips for visual reading of up to 10 parameters and the Clinitek® line of instruments for automated sample analysis. We also offer the DCA 2000®+ system that provides diagnostic tests for diabetes and kidney disease management.


	Molecular Testing (formerly Nucleic Acid Diagnostics)

Molecular Testing offers a complete virology infectious disease portfolio including quantitative and qualitative analysis as well as genotyping and resistance testing. For highly specific testing of infectious diseases, we offer a family of DNA probes under the VERSANT® brand for the testing of HIV and Hepatitis B and C. Molecular techniques detect nucleic acids such as DNA and RNA to allow for effective treatment of infectious and other diseases. In December 2003, we received CE mark certification for our Genotypic HIV resistance test. This genotyping kit contains the first CE-cleared product for genotypic HIV resistance testing and will allow us to commercially distribute the product in Europe.


	TeleHealthcare

The joint venture with Matsushita Electric Industrial^(TM) Co. Ltd. established the subsidiary Viterion^(TM) TeleHealthcare LLC, an independent company that is marketing products and services for the telemedicine sector, in 2003. Main products are the Viterion^(TM) 100 TeleHealth Monitor, a compact home health care monitor and the Viterion^(TM) 500 TeleHealth Monitor, a state-of-the-art home health care monitor.

Products launched in 2004 include the following:


Product/Brand Name	Principal application	Status⁽¹⁾

ADVIA Centaur® menu expansion	Infectious disease, two	Launched throughout 2004
	additional claims for BNP
ADVIA IMS® 800i menu expansion	Integrated immunodiagnostics and	Launched throughout 2004
	clinical chemistry
ADVIA® 1200	Low- to medium-volume clinical	Launched in November 2004
	chemistry analyzer
ADVIA® 2120	2nd generation hematology	Launched in May 2004
	platform to ADVIA® 120


⁽¹⁾	The term “throughout” refers to the fact that there are various versions of the products that were launched at different times throughout the year; “launched in” refers to a single product.


	*Markets and Distribution*

Our Diagnostics division markets its products both directly and through a network of distributors. Our principal markets include North America, Western Europe and Japan.

Diagnostics division sales are typically lower in the first quarter, but show a slightly stronger performance in the fourth quarter.

We market our Central Laboratory and Molecular Testing products, as well as most of our Near Patient Testing products, directly to customers, who are primarily reference or private laboratories and hospitals. In the Near Patient Testing segment, we market urine chemistry primarily through distributors. We market our TeleHealthcare products directly to home health care agencies, disease management companies and the government.

We manufacture or assemble a significant portion of our own products. In order to do so, we rely on a supplier management process to supply raw materials, sub-assemblies and finished goods on an OEM (original equipment manufacturer) basis. Most of our direct materials are readily available commodities. Typically, these materials are not subject to significant changes in price or availability. We do require some direct or OEM materials, for example antigens and blood chemistry systems, for the ADVIA® systems. If these were to become unavailable, the division’s results of operations would be impacted. In these instances, we maintain strategic reserves of selected direct materials or finished products to avoid interruptions in our customers’ continuous and reliable supply.

Our primary competitors are:


	•	Central Laboratory Testing: Abbott, Roche, Beckman Coulter, Dade Behring and Johnson & Johnson;

	•	Molecular Testing: Roche, Abbott and Gen-Probe;

	•	Near Patient Testing: Roche, Radiometer and Instrumentation Laboratory;

	•	TeleHealthcare: HomMed, American Telecare, Health Hero, Philips Medical, Alere Medical.


	*Research and Development*

Our Diagnostics division focuses its research and development activities primarily on strengthening its core product lines and on entering the market for genomic-based assays:


	•	in Central Laboratory Testing, through development of the ADVIA® family of systems and in the expansion of assays in growth areas;

	•	in Molecular Testing, through menu expansion of assays for infectious disease and automation; and


	•	in Near Patient Testing, through enhancements of our Rapid systems and Clinitek products, and entry into the point-of-care immunoassay market.

The division’s primary research and development facilities are located in the United States: Tarrytown, New York; Edgewater, Cambridge and Walpole, Massachusetts and Berkeley, California.

We currently have a number of products in late stages of development. Depending on completion of clinical trials and subsequent grant of any necessary FDA approvals, we expect to launch these products during the periods indicated below. These products are:


Product/Brand Name	Principal Application	Status⁽¹⁾

ADVIA Centaur® CP	Medium-volume immunoassay analyzer	Launch planned for 2005
Rabidlab® 1200	Blood gas/electrolyte analyzer	Launch planned for 2005
ADVIA Centaur® menu expansion	Completion of full infectious disease panel, autoimmune and transplant drug monitoring	Launch planned throughout 2005
ADVIA IMS® 800i menu expansion	Menu expansion for clinical chemistry	Launches planned throughout 2005


⁽¹⁾	The term “launch(es) planned throughout” refers to the fact that there are multiple products that we expect to launch at different times throughout the year; “launch planned for” refers to a single product.

In July 2004, we entered into a collaboration with peS Gesellschaft fuer medizinische Diagnosesysteme mbH and Siemens Medical Solutions. The partners plan to develop and commercialize a point-of-care immunoassay system that will allow rapid and accurate diagnosis of various pathological conditions.

We continue to maintain an exclusive worldwide development and supply agreement with Amersham Biosciences Corp. for the joint development of assays and instrumentation in the field of human immunodeficiency virus (HIV) sequencing, as well as sequencing of other important infectious disease-causing pathogens.

Diabetes Care


	*Overview*

The Diabetes Care division is headquartered in Elkhart, Indiana and is a midsize Diabetes Care player. We support customers by delivering innovative products and services that empower people with diabetes to improve their quality of life.


	*Major Products*

In the Diabetes Care division, we continue to expand the Ascensia® brand by introducing several new blood glucose monitoring products. Our key products include the Ascensia® Breeze®/ Confirm® and the Ascensia® DEX®/ ESPRIT® blood glucose meters, which incorporate a 10-test disc to provide greater convenience to patients who test their blood sugar levels several times per day. Another key product is the Ascensia® Contour® meter, which uses a single test strip. The Ascensia ELITE® is a versatile blood glucose meter that serves a wide spectrum of patient needs.

In October 2004, we launched the Ascensia® BRIO®. Ascensia® BRIO® is a single-strip, whole blood glucose monitoring system targeted to compete in selected lower priced markets; i.e., in Italy and France as well as in selected segments in the U.S. market, i.e., Medicare/ Medicaid.


	*Markets and Distribution*

We channel our Diabetes Care products to the consumer market through distributors and large pharmacy and retail chains. Our principal markets include North America, Western Europe and Japan.

Diabetes Care sales are typically lower in the first quarter, but show a slightly stronger performance in the fourth quarter.

Our single manufacturing facility of Diabetes Care is located in Mishawaka, Indiana. We manufacture and/or assemble approximately one third (by units) of our own products with the balance coming from OEM suppliers. We rely on a supplier management process to supply raw materials, sub-assemblies and finished goods, of which most are contractually controlled and are not subject to significant changes in price or availability.

We do require some direct or OEM materials that would impact our results of operations if they were to become unavailable. These materials include, for in-house manufacturing, customized integrated circuits and sensors for the Ascensia® Breeze/ Confirm® bloodsugar monitoring system, as well as OEM Ascensia® Contour/ Entrust® meters and strips. In these instances, we maintain strategic reserves of selected direct materials or finished products to avoid interruptions in our customers’ continuous and reliable supply. We maintain a global supplier base with the majority of materials and products being sourced from South-East Asia.

Our primary competitors in the diabetes care market are: Roche Diagnostics, Lifescan (a Johnson & Johnson company) and Abbott Diagnostics.


	*Research and Development*

Our Diabetes Care division focuses its research and development activities primarily on strengthening its core product lines and on expanding into high growth/high margin segments of the market. We achieve this through internal development and OEM of mass market, user-friendly whole blood glucose monitoring systems and by focusing research on a minimally invasive system, requiring only a small blood sample and having a short testing time, coupled with the convenience of no test strip handling. We are also investing in technologies that will allow glucose monitoring without painful invasive sampling of body fluids.

The division’s research and development facility is located in the United States in Elkhart, Indiana.

During 2003 and 2004, several new Ascensia® systems have been introduced in the marketplace. During 2005, our research and development will continue the support of these newer systems and also will be developing next generation systems that we intend to introduce in 2006 and thereafter.

We continue to maintain a licensing agreement with Sontra Medical Corporation for their continuous non-invasive glucose monitoring technology, including exclusive worldwide rights to the intellectual property in Sontra’s SonoPrep^(tm) ultrasonic skin permeation technology for the continuous non-invasive glucose monitoring field.

ANIMAL HEALTH

Overview

Our Animal Health segment researches, develops and markets new products for the health care of animals. These products are divided between the two business units Food Animal Products (formerly Livestock Products) and Companion Animal Products. This range of products is supplemented by a line of farm hygiene products as well as cosmetic care products.

The following table shows the segment’s performance for the last three years.


		2002			2003		2004

		(Euros in millions)
External net sales			850			790		786
	Percentage of total sales		2.9			2.8		2.6
Intersegment sales			1			8		4
Operating result			168			172		157
	thereof special items⁽¹⁾		(11	)		22		0


⁽¹⁾	The significant special items are detailed in Item 5, Operating and Financial Review and Prospects — Operating Results 2002, 2003 and 2004 — Segment Data.

The Animal Health segment sales by region for the past three years are as follows:


		2002		2003		2004

		(Euros in millions)
Europe			243		242		245
North America			337		305		295
Asia/ Pacific			136		122		120
Latin America/ Africa/ Middle East			134		121		126

	Total		850		790		786

The following table shows our sales during the past three years for the two business units.


		2002		2003		2004

		(Euros in millions)
Food Animal			414		383		375
Companion Animal			436		407		411

	Total		850		790		786

2004 sales of the segments’ material products were €206 million for the Advantage® (including Combi)/K9Advantix® product family (representing 26.2 percent of total segment sales; compared to €196 million, or 24.8 percent, in 2003 and €205 million, or 24.1 percent, in 2002) and €160 million for Baytril® (representing 20.4 percent of total segment sales; compared to €170 million, or 21.5 percent, in 2003 and €183 million, or 21.5 percent, in 2002). Apart from these two products, no product of this segment accounted for more than 12 percent of total segment sales in 2004, 2003 or 2002.

Segment Strategy

Animal Health aims to be a worldwide leading company in the Food Animal and Companion market and strives to be the preferred partner for and provider of veterinary solutions.

It is part of our business strategy for Animal Health to sustain its current profit position by focusing on attractive countries and markets. Furthermore, Animal Health pursues a policy of organic growth by exploiting existing core brands supported by new business development activities. To complete our existing product portfolio, Animal Health periodically evaluates the possibility of acquisitions or strategic alliances. The Animal Health segment collaborates closely with our Pharmaceuticals division and CropScience segment as well as other life science companies in research and development in order to bring to the market new active ingredients and products that combat diseases in animals.

Major Products


	*Parasiticides*

K9 Advantix® is a flea and tick control product in an easy-to-use spot-on application form with additional repelling effect against ticks and mosquitoes for dogs.

Advantage® is a flea control product in an easy-to-use, spot-on application form for dogs and cats.

The Droncit® and Drontal® product family offers solutions for the control of tapeworm and roundworm for dogs and cats.

Bayticol® is a topical product against major tick species that attack livestock animals.

Baycox® is a product for controlling coccidiosis in poultry and in piglets.


	*Antimicrobials*

The Baytril® family is our line of fluoroquinolone antimicrobials for the treatment of severe bacterial infections in animals.


	*Biologicals*

These products consist of vaccines covering Foot-and-Mouth Disease (FMD-vaccines) for livestock animals.


	*Nutritionals*

These are premixes or feed additives, e.g., vitamins, minerals and others, to support our business model with proprietary products like Baytril® and Baycox®.


	*Farm Hygiene*

Integrated into our Food Animal Products business is our biosecurity management process that includes Farm Hygiene products. These products include insecticides for fly control, rodenticides against rats and mice (which now belong to our CropScience segment but are also marketed by Animal Health in some countries) and disinfectants against bacteria.

Markets and Distribution

The Animal Health business covers worldwide markets, including emerging markets such as China, Vietnam and others in South-East Asia. We divide our marketing activities into two main business areas: marketing for food-producing animals, and marketing for companion animals including horses.

On a worldwide basis, the activities of the Animal Health segment are not subject to any significant seasonal effects.

Depending on national legislation, Animal Health products may be available to end users on a prescription or non-prescription basis. End users may purchase prescription products directly from veterinarians or pharmacies with a written prescription issued from a licensed practicing veterinarian. Also, based on national legislation, non-prescription products may be available through over-the-counter retailers, cooperatives, pet shops, integrators in the livestock segment and other specialized channels in the companion animal market.

We currently obtain the active pharmaceutical ingredients for our veterinary pharmaceutical products either within the Bayer Group or from third parties worldwide. We obtain additional ingredients and packaging materials from diverse suppliers on a worldwide basis. As a rule, we approve our suppliers for each required material. We take measures in order to assure continuous product supply and to reduce the effects of price volatility. This includes entering into long-term contracts or building strategic reserves of the material in question.

Our main pharmaceutical production facilities devoted to formulation and packaging of our products for shipment are Kiel, Germany and Shawnee, Kansas.

Merial, Pfizer and Intervet are our main competitors, with Merial and Pfizer being active in both segments companion and livestock animals and Intervet concentrating mainly on Food Animal products. The global animal health market is characterized by market consolidations and increasing competitive pressure from generic products.

Research and Development

The Animal Health segment focuses its research and development activities on antimicrobials, parasiticides and active ingredients useful for the treatment of non-infectious diseases such as renal failure, pain management, oncology and congestive heart failure. A particular goal of our research and development efforts is to provide the segment with innovative and patent-protected products (new active ingredients, formulations and application technologies).

The segment’s primary research and development facilities are located in Monheim, Germany and Kansas City, Missouri.

We currently have several products or product families in late stages of development or they are subject to regulatory approval. We expect to launch these products between 2004 and 2009. Major products are:


Projects/Products	Indication	Status

Endoparasiticide and ectoparasiticide combinations	Control of fleas, ticks, heartworm and gastrointestinal worms in cats and dogs	Launch/in registration/in clinical development
Red mite control remedy	Poultry	Submitted
Baycox® calves	Coccidiosis control in calves	In registration
Baytril® swine (North America)	Antimicrobial infections in pigs	In registration
Pradofloxacin	Antimicrobial for dogs and cats	In clinical development, two formulations in EU already submitted

BAYER CROPSCIENCE

Overview

Bayer CropScience develops and markets chemical crop protection products, seeds and integrated plant biotechnology solutions for agricultural and non-agricultural uses. Bayer CropScience operates through three business groups: Crop Protection, Environmental Science and BioScience. Crop Protection markets chemical crop protection products for the control of insects, weeds and fungi (plant diseases) and develops products for enhanced effectiveness against these target pests. Environmental Science serves non-agricultural professional and consumer markets worldwide, by developing and marketing products for professional pest control, the green industry (including the treatment of golf courses, lawn care and industrial vegetation management), lawn, garden and household care, termite and vector control, and rural hygiene. BioScience focuses on the research,

development and marketing of conventional seeds as well as plant biotechnology products. The following table shows Bayer CropScience’s performance for the last three years.


		2002⁽¹⁾			2003			2004

		(Euros in millions)
External net sales			4,697			5,764			5,946
	Percentage of total sales		15.9			20.2			20.0
Intersegment sales			90			69			57
Operating result			(112	)		342			492
	thereof special items⁽²⁾		67			(81	)		(30	)


⁽¹⁾	The figures contain sales from the acquired Aventis CropScience business since June 2002.

⁽²⁾	The significant special items are detailed in Item 5, Operating and Financial Review and Prospects — Operating Results 2002, 2003 and 2004 — Segment Data.

Bayer CropScience’s sales by region and totals for the past three years are as follows:


		2002		2003		2004

		(Euros in millions)
Europe			1,851		2,296		2,238
North America			1,024		1,339		1,412
Asia/ Pacific			797		963		927
Latin America/ Africa/ Middle East			1,025		1,166		1,369

	Total		4,697		5,764		5,946

The following table sets forth Bayer CropScience’s sales for the last three years, broken down by category of activity.


		2002		2003		2004

		(Euros in millions)
Crop Protection			4,002		4,801		4,957
	Insecticides		1,250		1,376		1,378
	Fungicides		1,030		1,168		1,277
	Herbicides		1,452		1,848		1,855
	Seed Treatment		270		409		447
Environmental Science			605		692		678
BioScience			90		271		311

	Total		4,697		5,764		5,946

The following table shows the sales during the past three years from the products that account for the largest portion of segment sales.


		2002				2003				2004

				Percentage of				Percentage of				Percentage of
Product		Sales		Segment Sales		Sales		Segment Sales		Sales		Segment Sales

		(Euros in				(Euros in				(Euros in
		millions)				millions)				millions)
Confidor®/ Gaucho®/ Admire®/ Merit®^(a)(Insectides/ Seed Treatment/ Environmental Sciences)			561		11.9		590		10.2		603		10.1
Folicur®/ Raxil® (Fungicides/ Seed Treatment)			260		5.5		315		5.5		411		6.9
FLINT®/ Stratego®/ Sphere® (Fungicides)			159		3.4		200		3.5		240		4.0
Puma®^(b)(Herbicides)			92		2.0		226		3.9		227		3.8
Basta®/ Liberty®^(b)(Herbicides)			70		1.5		159		2.8		197		3.3
Decis®/ K-Othrine®^(b)(Insecticides/ Environmental Science)			87		1.9		159		2.8		172		2.9
Betanal®^(b)(Herbicides)			41		0.9		143		2.5		144		2.4
Fenikan®^(b)(Herbicides)			71		1.5		115		2.0		118		2.0
Temik®^(b)(Insecticides)			59		1.3		90		1.6		109		1.8
Aliette®^(b)(Fungicides)			64		1.4		107		1.9		99		1.7
Other			3,233		68.7		3,660		63.3		3,626		61.1

	Total		4,697				5,764				5,946


^(a)		The active ingredient imidacloprid contained in these products is also used in the Animal Health segment’s Advantage® product.

^(b)		Sales after the acquisition of the Aventis CropScience group (June 2002).

Segment Strategy

We aspire to be a leading partner for the production of quality food, feed and fiber. Our mission is to become the world’s leading provider of innovative products and combined solutions for agriculture and environmental health. We strive to build long-term, consistent, predictable and mutually beneficial partnerships with our customers. We conduct our business responsibly, aiming to fulfill our commitment to sustainable agriculture and to achieve long-term profitable growth.

Key factors in achieving our profitability targets are new product launches, the realization of synergies, strict cost management and portfolio streamlining. In 2004, we launched an initiative to further enhance efficiency in all areas of Bayer CropScience by improving internal business processes and through adjustments in the field of research and development which are intended to lead to a reduction of R&D costs in the medium term.

With its Crop Protection business, Bayer CropScience strives to maintain its leading position in the crop protection industry (based on sales)⁽²⁾ by utilizing its broad regional representation and a well-balanced portfolio comprising innovative, high-performance insecticides, fungicides, herbicides and seed treatment products. A key growth driver is the continuous introduction of new products from our research and development pipeline and an innovative life cycle management.

Environmental Science is among the leading suppliers for non-agricultural pest control solutions worldwide (in terms of sales). Our objective is to strengthen this market position by focusing on the continuous optimization


⁽²⁾	This statement is based on 2003 and first half of 2004 data published in AgriFutura, The newsletter of Phillips McDougall — Agriservice, No. 53 (March 2004) and No. 58 (August 2004); data for the full year 2004 have not yet been published.

of our portfolio, strong partnerships with our customers and “proximity innovation”, the ability to offer brand-connected solutions which are customized to meet the needs of our professional and consumer customers.

BioScience is an international player in the research, development and marketing of seeds and solutions derived from plant biotechnology and breeding. Our strategic approach comprises three specific business fields:


	•	Agricultural Crops focuses on delivering seeds and crops with improved performance and productivity, particularly with respect to our core crops cotton, oilseed rape (canola) and rice.

	•	In New Business Ventures, we are developing innovative plant-derived materials for applications in fields such as health, biomaterials and nutrition.

	•	In the Vegetables field, where the Nunhems unit of BioScience is among the leading developers and suppliers of high quality vegetable seed varieties (based on sales), we intend to pursue growth opportunities.

Major Products


	*Crop Protection*


	Insecticides

Imidacloprid (major brands: Confidor®, Admire®) is an active ingredient in the chemical class of neonicotinoids. It controls a broad range of pests, including aphids, thrips, whiteflies, leafhoppers, locusts, leafminers, wireworms and many species of beetles, and is suitable for a wide variety of application methods, including foliar spray, soil drench, seed treatment and drip irrigation. Imidacloprid is now marketed in more than 100 countries for use on numerous important crops.

Deltamethrin (major brand: Decis®) is a broad-spectrum pyrethroid insecticide. It is being used primarily against chewing and biting insects, and is also effective against various sucking pests. Decis® is marketed in more than 100 countries for use on a wide range of crops (including cotton, soybeans, vegetables and cereals).

Aldicarb (major brand: Temik®) is a broad-spectrum carbamate insecticide and nematicide in granular form. Temik® is applied to soil to protect crop roots from insects and nematodes and to protect against pests such as aphids or mites. Temik® is used on a large number of crops, such as cotton, citrus and potatoes.


	Fungicides

Tebuconazole (major brand: Folicur®) is a broad-spectrum fungicide sold in about 100 countries and effective in more than 90 crops. Folicur® is especially effective against Fusarium and rusts as well as many other fungal diseases in cereals. Folicur® has very good efficacy against soybean rust. Folicur® and other tebuconazole containing mixtures are available in many liquid or solid formulations adapted to our customers’ needs.

Trifloxystrobin (major brand: Flint®), the active ingredient of the Flint® product family is sold in about 80 countries. The product range consists of solo products and several co-formulations (e.g., Stratego®, Sphere®), all tailor-made to meet the specific requirements of highly diverse crop production systems under various climatic conditions. Good crop safety and a broad and well-balanced disease control spectrum, complemented by beneficial physiological effects on yield, quality and shelf-life of fruit and grain, make these products well-suited for use in fungicide spray programs on a wide range of crops.

Fosetyl-Al (major brand: Aliette®) is a fungicide used especially against downy mildew fungi in vines, fruits and vegetables. A key property of Fosetyl-Al is its upward and downward mobility in plants. Sprayed on leaves, it is absorbed and transported inside the plants downward to the roots to protect them against attack from fungi in the soil and it is re-directed inside the plants upward to protect newly emerging leaves. Fosetyl-Al is used in foliar sprays and soil drenches as a straight product under our lead brand Aliette® and in various combinations under brands, such as Mikal® or Valiant®.


	Herbicides

Fenoxaprop-P-ethyl (major brand: Puma®), Bayer CropScience’s best selling herbicide, is used in more than 73 countries and is one of the leading products used worldwide against grass weeds in cereals, rice, soybeans and canola. It offers a consistently high level of control of grass weed problems under a wide range of conditions.

Glufosinate-Ammonium (major brand: Basta®) is a post-emergence herbicide with a broad spectrum of efficacy against annual and perennial weeds and grasses. It is primarily used on perennial tree crops, vegetables, non-crop areas and as a harvest aid. Liberty®, introduced in Canada and the United States, refers to the registered trade name of glufosinate-ammonium applied on herbicide-tolerant crops.

The active ingredients phenmedipham, desmedipham and ethofumesate make up the Betanal® product family, the basis of weed control systems for various beet varieties. Ongoing improvements in the efficiency and range of uses of these products have extended the life cycle of the product family, resulting in its strong position in the sugar beet market.


	Seed Treatment

The insecticidal active ingredient imidacloprid (major brand: Gaucho®) is Bayer CropScience’s best selling seed treatment product. It is marketed in over 70 countries for the treatment of early season pests and soil and leaf pests in key crops such as sugarbeet, corn, cereals and cotton.

Clothianidin (major brand: Poncho®) is a new active ingredient in the chemical class of neonicotinoids, jointly developed by Sumitomo Chemical Takeda Agro Co. Ltd. and Bayer CropScience AG. The active ingredient was developed primarily for the control of the major soil and early season pests in corn, sugarbeet, oilseed rape (canola), sunflower and cereals. In 2003 and 2004, clothianidin has been introduced in, among other countries, the United States, New Zealand and Austria.

Tebuconazole (major brand: Raxil®) is registered in our most important markets worldwide as a seed treatment to control seed and soil-borne diseases in cereals.


	*Environmental Science*

Imidacloprid-based Premise® is a termite control product launched in the United States in 1996. Merit®, another imidacloprid-based product, is used in the green industry segment, in particular in turf and ornamentals. It controls a large spectrum of insects such as grubs and cutworms.

Deltamethrin (major brands: K-Othrine®, Deltagard®), another important insecticide marketed by Environmental Science, controls a large spectrum of flying and crawling insects. Deltamethrin is recommended by the World Health Organization and has been used for many years to control insect-borne diseases such as malaria.

Maxforce® is an insecticide used in passive treatment applications such as gels and baits. It contains hydramethylnone or fipronil. Maxforce®’s range of products includes a large number of insecticides controlling crawling insects.

Our products targeting non-professional users are marketed under the umbrella brands Bayer Advanced® in the United States and Bayer Garden® in Europe.


	*BioScience*

With Nunhems (Nunhems®), Bayer CropScience is one of the leading developers and suppliers of high-quality vegetable seed varieties that are marketed to professional outdoor and greenhouse growers, plant raisers and the food processing and service industries. The main crop seeds are carrots, onions, melons, leeks and tomatoes.

FiberMax® cottonseed brand was launched in the U.S. market in 1998. It was also introduced in Greece, Spain, Turkey and some Latin American countries. FiberMax® varieties offer cotton growers high performance in lint yield and quality as well as advanced technologies for insect and herbicide control.

InVigor® hybrid canola (oilseed rape) varieties are available to farmers in Canada and the United States. InVigor® hybrid canola varieties provide high yield and require less cultivation. These hybrid varieties also have tolerance to glufosinate-ammonium.

Arize^(tm) is the trademark for our hybrid rice seed offering a high-yield, high quality solution requiring less seeds per hectare than conventional rice. It has been introduced in India and the Philippines.

Markets and Distribution

Europe has traditionally been Bayer CropScience’s strongest market, accounting for nearly 40 percent of our sales in 2004.

Due to the fact that more than 80 percent of Bayer CropScience’s business is realized in the northern hemisphere, the business is affected by the seasonality of the various crop and distribution cycles.

Bayer CropScience obtains a significant part of its raw materials from within the Bayer Group (through 2004, including the LANXESS Group) but also enters into agreements with non-Bayer companies. Some raw materials can be subject to price volatility caused by fluctuation in the price of oil, energy or transport costs.

We market our Crop Protection products through a two- or three-step distribution system, depending on local market conditions. Under this system, products are sold either to wholesalers or directly to retailers.

Environmental Science products are directed towards professional and consumer markets. For each of these markets, the products run through different distribution channels. For professional markets, products are sold to the pest control industry, the green industry, as well as the public health and rural hygiene sectors. In the consumer business, lawn and garden products are sold to end user consumers through specialized distribution channels. Also, active ingredients are sold to marketers of household products.

BioScience markets its seeds to end users, distributors and processing industries. Plant biotechnology traits are either distributed through out-licensing to seed companies, which produce commercial seeds on the licensor’s behalf, or via their own seed companies — mainly through either the InVigor® or FiberMax® brands. In some cases, traits are provided to other companies that utilize the technology in their own research and products.

Our main competitors in the Crop Protection business are Syngenta, Monsanto, BASF, Dow AgroSciences and DuPont. Dow AgroSciences and Syngenta are our main competitors in the overall Environmental Science business. In the business of plant biotechnology-based products and seeds, DuPont, Monsanto and Syngenta are the market leaders.

Research and Development

Bayer CropScience operates a global research and development network. While research is concentrated in specialized sites, its development activities range from central facilities to field testing stations across the globe, enabling product testing in the relevant geographical areas.


	Crop Protection

Crop Protection Research and Development is globally represented with main facilities in Monheim (headquarters) and Frankfurt, Germany; Lyon and Sophia Antipolis, France; Stilwell, Kansas and Raleigh, North Carolina; and Yuki City, Japan.

The responsibility of the Crop Protection Research and Development function is to discover and develop customer-focused, innovative and profitable solutions in crop protection.

Research covers activities to identify new active ingredients that can be developed as insecticides, fungicides or herbicides. Genomics, high-throughput screening and combinatorial chemistry are part of the technological platform to identify new lead structures. Collaborations with research companies supplement our internal research activities.

Once a compound is identified for development, its biological, environmental and toxicological profile, as well as its economic potential, is assessed. Suitable candidates are launched in the market after having obtained any required regulatory approvals.

Bayer CropScience actively supports its products through continuous life cycle management. This includes the development of new formulations for existing active ingredients and products, expanding their applicability to additional crops and countries or improving handling and facilitating application of the product by the end user.


	Environmental Science

The molecules discovered by Crop Protection Research are also tested and evaluated in Environmental Science for potential development. Molecules from other companies may be tested and purchased if suitable. Development projects include passive treatments (gels, baits) and innovative formulations to control insects, as well as new herbicide products and new mixtures of fungicides for the turf and ornamental market segments.


	BioScience

The primary BioScience research and development facilities are located in Lyon, France; Haelen, The Netherlands; Gent, Belgium; and Potsdam, Germany.

Plant biotechnology research and development is predominantly directed towards agronomic and quality improvement. The technologies include all relevant tools — from identifying the gene of interest to development — to improve key crops (cotton, oilseed rape (canola), rice) for growers and industrial partners. Research activities range from the exploration of novel agronomic traits to the discovery of new plant-based specialty products for the Nutrition, Health and BioMaterials markets.

The following new active ingredients were launched in 2004 or are expected to be launched subject to regulatory approval in 2005:


New active ingredients	Product Family	Status

Prothioconazole	Fungicides	Launched in 2004
Spiromesifen	Insecticides	Launch expected in 2005
Fluoxastrobin	Fungicides	Launch expected in 2005

Prothioconazole (major brand: Proline®) is the most recent development in triazole chemistry for broad spectrum disease control. As part of crop resistance management, prothioconazole-containing products will be used for foliar (Proline®, Prosaro®, Input®) and seed treatment applications (Redigo®) in cereals, oilseed rape (canola), peanuts, dry beans and other crops.

Spiromesifen (major brand: Oberon®) belongs to a new chemical class named tetronic acids. Oberon® is a new insecticide/miticide for foliar application in annual crops against all important whitefly, mite and psyllid species. Oberon® has been developed for worldwide use on vegetables, fruits, cotton, corn, beans, tea and some ornamentals.

Fluoxastrobin is a leaf-systemic, broad-spectrum strobilurin with curative and protective properties. Products containing fluoxastrobin will be used for foliar (major brand: Fandango®) and seed treatment applications (Bariton®, Scenic®) in cereals, potatoes, vegetables, peanuts and other crops.

BAYER MATERIALSCIENCE

In the course of forming the LANXESS subgroup (corresponding to our LANXESS segment), Wolff Walsrode and H.C. Starck, which are parts of our former Chemicals segment, and parts of our former Polymers business were combined in the Bayer MaterialScience subgroup. The subgroup comprises our Materials and Systems segments.

MATERIALS

Overview

Our segment Materials comprises the business units Polycarbonates, Thermoplastic Polyurethanes and the two subsidaries Wolff Walsrode and H.C. Starck. The following table shows the segment’s performance for the last three years.


		2002			2003			2004

		(Euros in millions)
External net sales			2,875			2,777			3,248
	Percentage of total sales		9.7			9.7			10.9
Intersegment sales			24			23			27
Operating result			174			58			293
	thereof special items⁽¹⁾		(2	)		(29	)		0


⁽¹⁾	The significant special items are detailed in Item 5, Operating and Financial Review and Prospects — Operating Results 2002, 2003 and 2004 — Segment Data.

The segment’s external sales, by region and in total, for the past three years are as follows:


		2002		2003		2004

		(Euro in millions)
Europe			1,229		1,246		1,382
North America			724		608		703
Asia/ Pacific			766		747		947
Latin America/ Africa/ Middle East			156		176		216

	Total		2,875		2,777		3,248

The following table sets forth the segment’s external sales, broken down by category of activity, for the past three years.


		2002		2003		2004

		(Euro in millions)
Polycarbonates			1,742		1,713		2,035
Thermoplastic Polyurethanes			181		177		182
Wolff Walsrode			345		323		328
H.C. Starck			607		564		703

	Total		2,875		2,777		3,248

2004 sales of the segments’ material products were €1,088 million for the Makrolon® product family (representing 33.5 percent of total segment sales; compared to €903 million, or 32.5 percent, in 2003 and €943 million, or 32.8 percent, in 2002) and €360 million for Bayblend® (representing 11.1 percent of total segment sales; compared to €312 million, or 11.2 percent, in 2003 and €339 million, or 11.8 percent, in 2002). Apart from these two products, no product of this segment accounted for more than 5 percent of total segment sales in 2004, 2003 or 2002.

Segment Strategy

Our goal is to continue expanding our global market positions by exploiting the growth potential of the new optimized portfolio and focusing on our Asian investment projects. We are primarily pursuing an organic growth strategy supported by both product and process innovation and active portfolio management to maintain a well-balanced commodity/specialty product mix. Additionally, we also explore possibilities for external growth through cooperations and joint ventures.

We aim to improve profit margins by continually streamlining our existing product portfolio, implementing efficient cost structures, eliminating capacity constraints and further exploiting our regional growth potential. Through optimized petrochemical purchasing strategies for all our businesses, we aim to mitigate the risk of low operating results associated with high feedstock prices.

For our polycarbonates business, we strive to achieve cost-competitive world-scale facilities with state-of-the-art technology.

To achieve further performance improvements, we are continuing our stringent cost and efficiency programs in the Materials segment. As announced in 2002, these programs also include headcount reduction. In 2003 and 2004, total headcount reduction amounted to 411.

Polycarbonates


	*Overview*

With its broad product portfolio, our business unit Polycarbonates (Polycarbonates, Polycarbonate Blends, Polycarbonate Films and Sheets) includes some of the leading global suppliers and manufacturers of engineering polycarbonates (based on capacity). Our Bayer Sheet Europe GmbH (formerly Makroform GmbH) has a strong position as a leading supplier of polycarbonate sheets. Our products have chemical and physical properties that enable them to resist very low or very high operating temperatures as well as corrosive chemicals and solvents.


	*Major Products*


	Polycarbonates (Makrolon®/ APEC®)

Polycarbonates are plastics that are transparent and highly stable across a wide temperature range. Polycarbonates almost completely dominate the field of optical data storage media, such as pre-recorded and recordable CDs and DVDs, and are widely used throughout the electrical/electronics segments in general for injection molding purposes. The construction industry is also a major user of polycarbonates, for example, for polycarbonate sheet applications. Makrolon® is our leading polycarbonate product range. Its key characteristics include high transparency, heat resistance and toughness. It can be both sterilized — important for the food and medical industries — and recycled. Our other polycarbonates include the APEC® range for high temperature usage such as components for automobile headlights.


	Polycarbonate Blends (Bayblend®/ Makroblend®)

Blend technology can transform a palette of a few basic polymers into a wide range of new, advanced polymers with tailored properties, creating user-specific solutions. Polycarbonate Blends are widely used in the automotive, electric/electronic and business machine industries. Makroblend® is our brand name for engineering thermoplastics blends based on Polybutylene Terephthalate (PBT) or Polyethylene Terephthalate (PET). The Bayblend® product lines of amorphous, thermoplastic polymer blends based on polycarbonate and ABS (acrylonitrile/butadiene/styrene) are our leading blends.


	Polycarbonate Films

Polycarbonate films, Makrofol®, are made of our polycarbonate Makrolon® and are characterized by product attributes such as high heat resistance, good printability and a very good graphic quality. The polycarbonate films of our Makrofol® range are used for applications such as instrument dials, automotive heater control panels, nameplates and a variety of film insert moulding parts (a combination of a backprinted and formed foil with Makrolon® and Bayblend®) as well as for high security identification cards.

Bayfol® is the trade name of our films made of polycarbonate blends and other polymers. Bayfol® CR films are noted for their superior chemical resistance and enhanced flexibility compared with pure polycarbonate film. The main application area is the IT industry with applications in keypads or housings.


	Polycarbonate Sheets (Fabricated Products)

We also produce solid and multiwall sheets with a broad range of characteristics for a wide variety of applications. These materials consist of polycarbonates, polycarbonate blends or thermoplastic polyesters. We market our sheets as Makrolon®, Bayloy®,Vivak® and Axpet®.


	*Markets and Distribution*

We sell the products of our Polycarbonates business entities to thousands of customers worldwide. These customers include injection-molding operators and a large number of plastic-component manufacturers, whose products are overwhelmingly used in the automotive, electrical, electrical engineering, construction, data technology, medical and leisure fields.

Depending on the region and the general economic situation, sales of polycarbonates may show moderate seasonality. Generally, sales are lower in the first quarter in all regions.

Bayer does not produce basic petrochemicals. The principal petrochemical raw materials consumed by our Polycarbonates business unit are acetone and phenol, supplied exclusively by third parties. We do produce Bisphenol-A, which is a major precursor of polycarbonate based on phenol and acetone. Our costs are affected by fluctuations in raw material prices, mainly driven by the price volatility of crude oil and benzene prices. We typically procure third-party raw materials under long-term oriented contracts that contain cost-based and market price formulas, partially reducing raw material price fluctuation.

We market substantially all our plastic products through regional distribution channels, supported by regional competence centers and by our head office. In addition, we also use trading houses and local distributors to work with small volume customers. We are using e-commerce tools to market our products.

Our most significant global competitor is General Electric Advanced Materials. We also compete with several other companies, most notably Dow Chemical and particularly in the Far East with local competitors such as Teijin, Chi Mei, Idemitsu, Mitsubishi Engineering Plastics and LG Chemical, which are also important market players.


	*Research and Development*

Our Polycarbonates business unit allocates resources for research and development both to process and product development with the aim to constantly improve our manufacturing processes and to develop new formulations and applications of our products. The primary research and development facilities are located in Krefeld-Uerdingen, Leverkusen and Dormagen, Germany and Pittsburgh, Pennsylvania.

We are currently working on the fine-tuning and improvement of our new polycarbonate melt manufacturing process for our investment in a new production facility in Caojing, China. Other current projects relate to the analysis of our existing manufacturing processes based on interfacial polycondensation to improve both product quality and cost performance.

In product development, we focus our activities on developing new blends, refining material for optical data storage, developing modified base materials for polycarbonate sheets and modifying the surface of polycarbonates using various coating technologies as summarized in the following table:


Product/Brand Name		Application

Surface-modified Makrolon®		Automotive
Improved Makrolon® ODS grade		Recordable ODS formats, such as DVD-R
Extension of Bayblend® FR series		Business machines/information technology
New Materials for Makrolon® Sheets		Electric/Electronic

In the area of polycarbonate glazing, Exatec, our joint venture with GE Advanced Materials, is progressing with implementing the glazing technology, especially in the automotive industry. A first license agreement for this technology has been signed in March 2005 between Exatec and a customer.

Thermoplastic Polyurethanes


	*Overview*

Our business unit Thermoplastic Polyurethanes develops and markets a wide variety of granules that serve as raw materials for extrusion, blow molding, calendering, or injection molding processed products. Additionally, our subsidiaries Epurex Films (Germany) and Deerfield Urethane (Massachusetts) manufacture different grades of thermoplastic polyurethanes films (TPU films).


	*Major Products*

Thermoplastic polyurethanes belong to the high-performance thermoplastic elastomers family. A key property of thermoplastic polyurethanes is their resistance to high abrasion and wear which is substantially superior to the resistance exhibited by abrasion-resistant rubber compounds. We market our thermoplastic polyurethanes granulates under the trademarks Desmopan® and Texin®. Our TPU films are marketed under the trademarks Walotex®, Walopur®, and Platilon® (Epurex Films) and Dureflex® (Deerfield Urethane).


	*Markets and Distribution*

Our Thermoplastic Polyurethanes business entities (TPU Granules, TPU Films) primarily serve customers of the sport and leisure, automotive, and packaging industries; other users include the textile, cable, and agricultural industries (e.g., animal ear tags).

Generally, our business is not subject to significant seasonality. All markets and regions taken as a whole generate relatively constant revenue throughout the year.

Temporary fluctuations in prices for raw material and energy can have an impact on the cost of our products. We secure our most important chemical raw materials through long-term contracts.

Our head office in Leverkusen, Germany, has the global responsibility for the business. We coordinate and carry out our sales and marketing from Leverkusen, Germany, for the region Europe, Middle East, Africa and Latin America as well as from our regional hubs in NAFTA (Pittsburgh) and the Asian Pacific region (Hong Kong), and through our various national subsidiaries.

We regard the following companies as the main competitors of our business entities:


	•	TPU Granules: BASF/ Elastogran, Lubrizol/ Noveon, Huntsman, Taiwan Uretec, Dow Chemical;

	•	TPU Film: Stevens Urethane, Fait, Ding Zing.


	*Research and Development*

The Thermoplastic Polyurethanes business entities focus their research and development activities on developing products that we can formulate into high-performance thermoplastic polyurethane granulates and films, such as plasticizer-free soft grades.

The business entities’ primary research and development facilities are located in Dormagen, Germany and Pittsburgh, Pennsylvania.

Wolff Walsrode


	*Overview*

We operate the Wolff Walsrode business group primarily through Wolff Walsrode AG, our wholly-owned subsidiary, assisted by other companies of the Bayer Group. The business group develops, produces and markets cellulose derivatives as well as various plastic films and other additives.


	*Major Products*


	Cellulose Derivatives


	•	Walocel® M is an additive that regulates water balance. It improves the workability and adhesion of building materials such as tile adhesives, plasters, mortars and dispersion paints.

	•	Walsroder NC serves in resin form in wood coatings and other industrial coatings as well as in printing inks for flexible packaging. It is also used as a component of nail polish and other specialty items.

	•	Walocel® C is used primarily as a thickener and binder in water-based systems. It is used in pharmaceuticals, dairy products and toothpaste, as well as in ceramics compounding, textile and paper manufacture and oil drilling.


	Other


	•	Under the brand name Walsroder®, we offer a wide range of sausage skins for industrial or handcraft usage.


	*Markets and Distribution*

Wolff Walsrode competes in the building materials, industrial coatings, flexible packaging ink and life sciences markets as well as in specialized industrial fields.

Wolff Walsrode generally conducts direct sales operations in Germany and the United States for its cellulose products. Outside these geographic areas, we ordinarily sell through Bayer’s worldwide sales organization.

The main raw material for our cellulose derivatives is chemical-grade cellulose derived from wood pulp and cotton. Because we have developed technologies to use either wood pulp or pulp based on cotton linters and because we have qualified a number of suppliers for both types of pulp, we have not had any significant problems with availability. Prices for chemical-grade cellulose show only moderate fluctuations, as a result of our diversified supplier base (located in both the euro and dollar zones), the raw material mix and an increasing number of contracts with our suppliers having terms of one year.

Our main competitors in the cellulose derivatives business are Hercules (Aqualon), Dow, SE Tylose GmbH & Co.KG, Shin-Etsu Chemical Co., Bergerac NC/ SNPE, Nobel Enterprises, Nitroquimica Brasileira, Noviant and Akzo Nobel.


	*Research and Development*

Wolff Walsrode is Bayer’s competence center for cellulose chemistry. Our research on cellulose and other polysaccharides takes advantage of the unique structural and chemical properties of these important renewable materials. The work is focused on products such as additives for building materials, binders for printing inks and coatings, as well as formulation aids for food, cosmetics and pharmaceuticals. Besides product development, we are constantly improving our production processes.

Wolff Walsrode’s primary research and development facilities, including a state-of-the-art pilot plant, are at industrial site “Industriepark Walsrode”, Bomlitz, near Walsrode, Germany.

H.C. Starck


	*Overview*

Our subsidiary H.C. Starck develops, produces and markets metallic and ceramic powders and fabricated products for various markets and applications. H.C. Starck continues to pursue a policy of forward integration (further developing the product portfolio in order to fulfill more directly customers’ needs).


	*Major Products*


	Metallic products and compounds

H.C. Starck produces a broad portfolio of products ranging from ceramic materials to metals such as tungsten, molybdenum, tantalum and niobium and their alloys and compounds for industrial customers in the aerospace, medical, chemical, electronic, lighting, tooling and optical components industries. We manufacture these products both in the form of ceramic or metallic powders and as solid intermediates or finished parts.

Kulite® is the trade name for our fabricated parts made from tungsten alloy powders. These products are used, for instance, as balance weights in the aerospace industry.

Molyform® powders are molybdenum disulfide solid lubricants. We market a range of powdered lubricants under the brand name Lubriform®. Our customers use these compounds to produce lubricants. The automotive industry also uses Molyform® for the production of brake linings.


	Battery intermediates

Ampergy® is the trade name of our nickel hydroxide and cobalt suboxide battery intermediates. Our customers in the electrochemical industry use Ampergy® to manufacture rechargeable batteries for modern communications devices and in large-scale industrial batteries.


	Chemical catalysts

Amperkat® is the trade name of our chemical catalysts. The chemical industry uses these products in a variety of applications, such as chemical synthesis, plastics production and hydration processes.


	Thermal spray powders

Amperit® is the trade name of our thermal spray powders. Our customers use these powders for a variety of functional coatings. Amperit® customers include the machine tool, power generation and aeronautics industries.


	Ceramic powders and parts

We produce a broad range of intermediates for advanced ceramics. H.C. Starck Ceramics produces functional ceramic parts from silicon carbide and silicon nitride for various applications such as pump seal rings, foundry parts and ball bearings.


	*Markets and Distribution*

Some of our markets are affected by pressure on prices and fluctuations in demand. Sales are also influenced by currency exchange rates. We expect steady growth in our customer industries for the foreseeable future.

China is the primary source of raw materials for tungsten products. In the past, China limited production, thus causing shortages. Since we have our own tungsten production and recycling facilities, we are only partially dependent on Chinese imports. The price of molybdenum, historically less volatile, has increased substantially throughout the second half of 2004. If prices increase further, we cannot exclude an impact on our future business. Tantalum raw material prices have remained relatively stable during the past two years. For this raw material, we secure our supply through long-term contracts generally lasting three to five years.

H.C. Starck has its own international sales organizations in Europe, the United States and Japan, which are the company’s most important markets. In addition, we have liaison offices in Scandinavia, the Benelux countries, France, Italy and the United Kingdom. These maintain direct contact with our customers. We also have liaison offices in Shanghai and Hong Kong for China and in Singapore for the Southeast Asia region. In other countries, we either rely on the Bayer sales organizations or use third-party sales agents.

We regard the following companies as our chief competitors:


	•	Metallic products and compounds: Wolfram Bergbau- und Hütten GmbH, Cabot Group (including its associated joint ventures), Mitsui, MolymetOMG, Osram Sylvania, Japan New Metals, Plansee AG, Phelps Dodge;

	•	Battery intermediates: Tanaka Chemical, Umicore;

	•	Chemical catalysts: Johnson Matthey, Degussa, Grace-Davison, Engelhard;

	•	Thermal spray powders: Praxair, Sulzer Metco, Fujimi;

	•	Ceramic powders and parts: Denki Kagaku, SB Boron; GE Advanced Ceramics, Tokuyama.


	*Research and Development*

H.C. Starck focuses its research and development activities on innovative products and system solutions. For example, we are developing high-capacity tantalum and niobium powders as intermediates for capacitors, and precursors for thin metallic films in microelectronic devices. We are also working on high-purity tantalum and niobium compounds for electroceramics and surface acoustic wave filters for computers and mobile telephones. Additionally, H.C. Starck is committed to developing materials for more technically advanced batteries, fuel cells, hybrid vehicles and other energy storage and power generation applications.

The primary research and development facilities of this subsidiary are located in Goslar, Germany, Newton, Massachusetts, and Mito, Japan.

We currently have eleven product groups in late stages of development, and expect to start and continue their launch during 2005, the most important projects being:


Product/Brand Name		Application

Powder and components for SOFC		SOFC (Solid Oxide Fuel Cells)
Niobium Oxide 60, 80 and 120 K		Capacitors
Tantalum 70/80, 100/120 and 150 K powder		Capacitors
Molybdenum plates for PVD		Flat panel displays

SYSTEMS

Overview

Our segment Systems comprises the business units Polyurethanes, Coatings, Adhesives, Sealants and Inorganic Basic Chemicals.

The following table shows the segment’s performance for the last three years.


		2002			2003			2004

		(Euros in millions)
External net sales			4,784			4,676			5,349
	Percentage of total sales		16.1			16.4			18.0
Intersegment sales			303			297			339
Operating result			(78	)		(455	)		348
	thereof special items⁽¹⁾		(296	)		(715	)		(27	)


⁽¹⁾	The significant special items are detailed in Item 5, Operating and Financial Review and Prospects — Operating Results 2002, 2003 and 2004 — Segment Data.

The segment’s external sales, by region and in total, for the past three years are as follows:


		2002		2003		2004

		(Euros in millions)
Europe			2,085		2,107		2,494
North America			1,536		1,406		1,483
Asia/ Pacific			677		678		822
Latin America/ Africa/ Middle East			486		485		550

	Total		4,784		4,676		5,349

The following table sets forth the business entities’ external sales for the last three years, broken down by category of activity.


		2002		2003		2004

		(Euros in millions)
Polyurethanes			3,274		3,228		3,872
Coatings Adhesives Sealants			1,318		1,191		1,237
Inorganic Basic Chemicals			181		218		218
Others			11		39		22

	Total		4,784		4,676		5,349

2004 sales of the segments’ material products were €1,708 million for Desmodur® products (representing 31.9 percent of total segment sales; compared to €1,567 million, or 33.5 percent, in 2003). Apart from Desmodur® and two other products, each of which accounted for less than 10 percent of segment sales in 2004, no other product of the segment accounted for more than 5 percent of segment sales in 2004. Due to reorganization and introduction of a new reporting system in 2003, we are unable to provide sales per product for 2002 without unreasonable effort.

Segment Strategy

Our goal is to continue expanding our global market positions by exploiting the growth potential of the new optimized portfolio and focusing on our Asian investment projects. We are primarily pursuing an organic growth strategy supported by both product and process innovation and active portfolio management to maintain a well-balanced commodity/specialty product. Additionally, we also explore possibilities for external growth through cooperations and joint-ventures.

For our polyurethanes business, we strive to achieve cost-competitive world-scale production facilities with state-of-the-art technology.

To further achieve performance improvements, we will continue our stringent cost and efficiency programs, which were announced in 2002, in all business units of the Systems segment. As part of these programs, we reduced headcount by a total of 1,127 in the course of 2003 and 2004.

Polyurethanes


	*Overview*

Our Polyurethanes business entities (MDI, TDI, Polyether) focus on the development, production and marketing of isocyanates and polyol materials for polyurethane formulations and systems used in producing a wide variety of polyurethane polymers for a broad range of industrial and consumer applications.


	*Major Products*

Polyurethanes are polymers formed through the reaction of two liquid chemicals: an isocyanate — typically diphenylmethane diisocyanate (MDI) or toluene diisocyanate (TDI) — and a polymeric alcohol such as polyether polyols. We produce a range of different isocyanates and polyether polyols under such brand names as Desmodur® and Desmophen®. The characteristics of a given polyurethane depend on both the material components used as well as the precise proportion of each in the mix.

Our customers use our isocyanates or polyether polyols, or both, to create their own specific polyurethane formulations In addition, upon request, we design and evaluate custom blends to meet specific customer requirements. The customer receives a ready-to-use two-component system. The precise formulation of each custom blend is proprietary.

Typical applications for which our customers use our polyurethane materials include furniture, mattresses, shoes, automotive components, appliances, sport and leisure equipment and construction.


	*Markets and Distribution*

Europe and the NAFTA nations remain the primary markets for our Polyurethanes business entities, with the Asian market showing the strongest growth. Our external sales were €3.9 billion in 2004.

The predominant cushioning material for upholstered furniture nowadays is flexible polyurethane foam. For our customers’ applications, there are no man-made or natural substitute materials that could replace significant amounts of flexible polyurethane foams in the near future. Rigid polyurethane foam is used for thermal insulation purposes competing with other insulating materials such as mineral fibers or polystyrene foam. Conversely, polyurethane elastomers compete with other thermoplastic materials on cost, performance and fit with the production mix at the customer’s site.

In the automotive area, there is constant competition between polyurethanes and other polymers in many applications due to required physical properties, costs, design or functional requirements.

On a worldwide level, the Polyurethanes business entities’ sales are not subject to significant seasonality. On the regional level, business can display seasonality where, for example, revenue depends on such seasonal industries as construction and other outdoor applications.

The basic raw materials for our isocyanates and polyols are petrochemical raw materials. We typically purchase these on the open market mostly under long-term contracts, as Bayer generally does not produce petrochemicals. However, through a global joint venture with Lyondell, we have acquired a source for propylene oxide, one of our key raw materials. These petrochemical raw materials are subject to price fluctuation driven by supply and demand factors and price volatility in the crude oil and derivates markets.

The Polyurethanes business entities sell their products directly to customers and, to a much smaller degree, through “system houses” and traders. System houses are focused regionally and typically serve smaller-volume customers.

To further increase efficiency along the supply chain, we have established regional service centers. They act as a central point of contact for customers on all issues concerning order processing, logistics and billing.

Our main competitors are BASF, Dow Chemical and Huntsman.


	*Production facilities*

Bayer has polyurethane raw material production facilities strategically located around the world to support its global product line. The business unit’s main production sites, which meet ISO 9001:2000 quality standards, are located in Antwerp, Belgium; Brunsbüttel, Dormagen and Krefeld-Uerdingen, Germany; Fos-sur-Mer, France; Tarragona, Spain; Baytown and Channelview, Texas, and South Charleston, West Virginia. Further production facilities are located in Brazil, France, Germany, Indonesia, Italy, Japan, Mexico, Taiwan and the United States. In addition, we are planning to build up capacities at our site in Caojing, China.

We have terminated the consolidation phase regarding our production facilities by closing our TDI plant in Japan in March 2004. Further plants have already been closed during 2003 in Mexico, Germany, Belgium and the United States.


	*Research and Development*

The business entities’ primary research and technical development facilities are located in Dormagen and Leverkusen, Germany; Pittsburgh, Pennsylvania, South Charleston and New Martinsville, West Virginia; Amagasaki, Japan; and Shanghai, China.

The main areas of innovation in the polyurethane field are currently the development of new or improved polyether polyol types and blends as well as the improvement of manufacturing processes. The Polyurethanes business entities concentrate their research and development efforts with respect to aromatic isocyanates on improving existing products and technologies for their manufacture. Some research activities go into new structures for isocyanates. High-throughput experiments are used for the development of new formulations and will help to reduce time-to-market for new products.

Coatings Adhesives Sealants


	*Overview*

Our Coatings, Adhesives, Sealants business entities develop and market a wide variety of products that serve as raw materials for lacquers, coatings, sealants and adhesives.


	*Major Products*


	Resins and Hardeners

Polyurethane lacquers are formed through the combination of an isocyanates component with a polyol-like polyester or polyacrylate. We offer a variety of polyol components branded as Desmophen®, Rucote®, Crelan® and Bayhydrol® (Resins) and polyisocyanates such as Desmodur®, Desmodur BL® and Bayhydur® (Base- and modified isocyanates). This variety enables us to provide custom-tailored solutions for a number of different applications.


	Special raw materials

Our special material unit produces such specialty products as Pergut® (Resins) for coatings and adhesives, Impranil®, our polyurethane coating systems for textiles, and Baybond® for glass fiber sizing.


	Adhesive raw materials

Dispercoll®, Desmocoll® and Baypren® (Resins) are our raw materials for adhesives. Their primary users are shoe manufacturers, though we also have customers from the automotive, furniture and building industries.


	*Markets and Distribution*

Our Coatings, Adhesives, Sealants business entities are a major producer of raw materials for coatings and adhesives. The primary ultimate end users of our products are the automotive, furniture, plastics, construction and adhesives industries; other users include the textile, shoe and building industries.

Generally, our revenue is not subject to significant seasonality. Some of the individual markets and regions that we serve experience seasonal fluctuation, such as the building industry during the winter months or southern Europe during the summer. All markets and regions taken as a whole, however, produce relatively constant revenue throughout the year.

Temporary fluctuations in prices, such as the price of crude oil or energy, can have a significant effect on the cost of our raw materials. We secure our most important chemical raw materials through long-term contracts.

We coordinate and carry out our sales and marketing from our head office in Leverkusen, Germany, as well as through our various national subsidiaries. Our key account managers serve our globally active major customers directly.

We regard the following companies as the chief competitors of our Coatings, Adhesives, Sealants business entities.

• Resin components (RES): Cytec/UCB, Cray Valley, DIC;


	• Aliphatic isocyanates (BMI):	Rhodia, Degussa, BASF, Asahi Kasei, NPU (Nippon Polyurethane Industry);

• Aromatic isocyanates (BMI): Dow, Mitsui Takeda, SAPICI.


	*Research and Development*

The Coatings, Adhesives, Sealants business entities focus their research and development activities on developing products that we can formulate into high performance coatings, such as aliphatic and aromatic polyisocyanates and resin components. We are also exploring ways of reducing the amount of solvent needed by technologies such as high solids and waterborne and powder coatings systems.

The business entities’ primary research and development facilities are located in Leverkusen, Germany, and Pittsburgh, Pennsylvania.

Inorganic Basic Chemicals


	*Overview*

The business unit Inorganic Basic Chemicals (IBC) produces inorganic basic chemicals such as chlorine, caustic soda, hydrogen and hydrochloric acid. The focus is on the safe and cost-efficient supply of chlorine to the customers. IBC has one of the largest production capacities of any chlorine manufacturer in Europe.


	*Major Products*

Inorganic basic chemicals are of major importance for Bayer MaterialScience (BMS): about 60 percent of its sales are dependent on chlorine. Chlorine is used for the production of intermediates that are subsequently processed into a variety of products, such as polyurethanes (foams, insulating materials) and polycarbonates (CDs, glazing). In most cases, chlorine is used only as an auxiliary product and is no longer contained in the end product. The four IBC production sites in Leverkusen, Dormagen and Krefeld-Uerdingen, Germany and Baytown, Texas, have a total chlorine capacity of around 1.4 million metric tons per year: chlorine is manufactured on an industrial scale by means of sodium chloride electrolysis (1.2 million metric tons) and hydrochloric acid electrolysis (0.2 million metric tons). Currently, 90 percent of the sodium chloride electrolysis capacity is based on the environmentally-friendly, energy-efficient membrane process. At sites where Bayer does not produce any chlorine, IBC supports external chlorine procurement.

In addition to chlorine, sodium chloride electrolysis generates caustic soda and hydrogen. These by-products, as far as they are not used internally, are sold to external markets.

During the processing of chlorine into intermediate products, hydrochloric acid may be produced. IBC is responsible for managing the balance of hydrochloric acid: if it is not sold or used internally, it is transported to the hydrochloric acid electrolysis units of IBC in Leverkusen and Dormagen, Germany and Baytown, Texas.


	*Markets and Distribution*

In general, chlorine is supplied by pipeline to internal and external customers located at Bayer sites where chlorine is produced. IBC markets the caustic soda and hydrochloric acid that is not used internally to customers from various industries worldwide.

The main raw materials for chlorine production are sodium chloride and power. Sodium chloride is purchased on the open market under long term contractual agreements and therefore generally not subject to price volatility. Power is purchased from Bayer Industry Services. Recently, costs of power have increased due to regulatory requirements of the EU and Germany.

Our main competitors are Dow, Solvay, Akzo Nobel, BASF, Vestolit and Ineos.


	*Research and Development*

Processes and plants are continuously enhanced and optimized within IBC while keeping in mind environmental compatibility. The main area of innovation in chlorine production is currently the development of the “Oxygen Depolarized Cathode” (ODC) in chlor alkali (sodium chloride) and hydrochloric acid membrane electrolysis to increase energy savings. At the BMS Brunsbüttel site, a hydrochloric acid electrolysis unit utilizing ODC technology was developed by IBC and a number of partners. It began production in late 2003.

LANXESS

Overview

In November 2003, Bayer announced that the Bayer Group intended to maintain its focus on its core businesses and therefore combine the Bayer Chemicals segment (except for Wolff Walsrode and H.C. Starck) with certain parts of the Bayer Polymers business in a new company. LANXESS was created with economic effect from July 1, 2004, and Wolff Walsrode and H.C. Starck were grouped together with the remaining parts of the Bayer Polymers business in a wholly-owned subsidiary of the Bayer Group now called Bayer MaterialScience. Bayer’s shareholders approved the spin-off at an extraordinary general meeting on November 17, 2004. The spun-off company, LANXESS AG, became a legally-independent company on January 28, 2005, when its spin-off was registered in the Commercial Register (Handelsregister) for Bayer AG at the Local Court of Cologne (Amtsgericht Köln), Germany.

Throughout 2004, the LANXESS businesses were operated as the LANXESS segment of the Bayer Group. This segment had a comprehensive product portfolio in polymers and basic, specialty and fine chemicals. At the end of 2004, it consisted of more than 50 operating companies and produced polymers and chemicals at 50 locations in 18 countries.

The business activities of our LANXESS segment were structured in 17 businesses combined into the four business units Performance Rubber, Engineering Plastics, Chemical Intermediates and Performance Chemicals. The following table shows the segment’s performance for each of the last three years. These figures are also presented in the segment reporting as discontinuing operations.


		2002			2003			2004

		(Euros in millions)
External net sales			6,241			5,776			6,053
	Percentage of total sales		21.1			20.2			20.3
Intersegment sales			501			557			659
Operating result			(128	)		(1,290	)		74
	thereof special items⁽¹⁾		(244	)		(1,204	)		(99	)


⁽¹⁾	The significant special items are detailed in Item 5, Operating and Financial Review and Prospects — Operating Results 2002, 2003 and 2004 — Segment Data.

The following table shows our LANXESS segment’s sales by region for the past three years:


		2002		2003		2004

		(Euros in millions)
Europe			3,072		3,045		3,134
North America			1,558		1,320		1,372
Asia/ Pacific			1,040		899		981
Latin America/ Africa/ Middle East			571		512		566

	Total		6,241		5,776		6,053

The following table sets forth the segment’s sales for the last three years, broken down by category of activity:


		2002		2003		2004

		(Euros in millions)
Chemical Intermediates			1,107		1,062		1,132
Performance Chemicals			2,081		1,884		1,856
Engineering Plastics			1,484		1,339		1,586
Performance Rubber			1,459		1,358		1,400
Other			110		133		79

	Total		6,241		5,776		6,053

The Performance Rubber entities comprise the Butyl Rubber, Polybutadiene Rubber and Technical Rubber Products businesses. The Engineering Plastics entities comprise the Styrenic Resins, Semi-Crystalline Products and Fibers businesses. The Chemical Intermediates entities consist of the Basic Chemicals, Fine Chemicals and Inorganic Pigments businesses. The Performance Chemicals entities comprise the businesses Material Protection Products, Functional Chemicals, Leather, Textile Processing Chemicals, Paper, Rhein Chemie, Rubber Chemicals and Ion Exchange Resins.

Major Products


	*Performance Rubber*

The Polybutadiene Rubber business uses three different catalyst systems in manufacturing polymers, each type imparting specific characteristics to the resulting polymers. Polybutadiene rubber is used principally in tire treads, invariably compounded with other rubbers to give the desired balance of properties such as long life, skid resistance and improved fuel economy, but is also used in polystyrene modification. The product family of the Polybutadiene Rubber business includes solution-polymerised styrene-butadiene rubbers.

The Butyl Rubber business produces a range of standard and halogenated butyl rubber, the principal characteristic of which is impermeability to air and gases.

The portfolio of the Technical Rubber Products business comprises polychloroprene, ethylene-propylene co- and terpolymers, nitrile rubber and styrene-butadiene copolymers as well as hydrogenated nitrile rubber and ethylene-vinyl acetate copolymers specialities. These products offer customers an array of varying characteristics, including processability, hardness, flexibility and wear, heat and chemical resistance, to suit their specific needs.


	*Engineering Plastics*

The products of our Styrenic Resins business include the ABS (acrylonitrile/butadiene/styrene) copolymers Novodur®, Lustran® and Absolac®, the SAN (styrene/acrylonitrile) resins Lustran® and Absolan®, as well as the blends Triax® and Centrex®.

The Semi-Cystalline Products business provides a range of polyamides and polyesters. Polyamides are tough, strong, high-performance plastics. They are resistant to chemicals and can often replace metal and other

materials. In addition, LANXESS uses these materials in producing halogen-free flame retardant products. Semi-crystalline thermoplastic polyesters like polybutylene terephthalate (PBT) and engineering plastics polyethylene terephthalate (PET) show high resistance to chemicals, heat distortion and stress cracking and feature low water absorption.

The Fibers business focuses on the development, production and marketing of fibers for the textile industry and for technical applications.


	*Chemical Intermediates*

The Basic Chemicals and Inorganic Pigments businesses focus on the development, manufacture and marketing of a wide range of basic chemicals, mainly aromatic compounds and iron-oxide pigments. Industrial chemicals are produced in bulk quantities using few synthesis steps. Bayferrox® is an iron-oxide based anorganic colorant, which is available in a variety of colors for a wide range of uses.

The Fine Chemicals business focuses on custom manufacturing for the pharmaceuticals and agrochemicals sectors.


	*Performance Chemicals*

The Material Protection Products and Functional Chemicals businesses comprise, among other products, industrial biocides, organic colorants and plastic additives. The Leather, Textile Processing Chemicals and Paper businesses produce chemicals for the leather, textile and paper industries. Rhein Chemie produces a wide variety of substances used in rubber manufacture and processing as well as in the lubricant oil and polyurethane industry. The Rubber Chemicals business produces a broad range of chemical products for use in the rubber compounding and production process. The Ion Exchange Resins business offers a broad range of ion-exchangers, adsorbers and catalysts. These products provide solutions, among other applications, for drinking or industrial water, food or chemical processing industries.

Markets and Distribution

The principal markets for the LANXESS business entities in 2004 were the chemicals/plastic industry, the automotive industry and the tire industry.

LANXESS is not subject to significant seasonality. Some of the individual markets and regions that it serves experience seasonal fluctuation, such as the agriculture industry (which mainly affects the Fine Chemicals business) and the building industry (which mainly affects the Inorganic Pigments business). All markets and regions taken as a whole, however, produce relatively constant revenue throughout the year.

The five most important raw materials used in the LANXESS production activities are acrylonitrile, 1,3-butadiene, cyclohexane, raffinate 1 and styrene. These raw materials are purchased from a large number of different external companies, in part pursuant to long-term contracts.

LANXESS produces part of its chemicals in dedicated, continuous-process manufacturing plants using advanced technologies. The other products are manufactured in batch-processing plants. The plants are predominantly located in Leverkusen and other German sites while others are located around the world in order to serve the local markets more economically.

LANXESS products are marketed mainly through a worldwide network of LANXESS business entities. In a number of countries in which LANXESS is not represented through a foreign affiliate, local distributions are consummated primarily on the basis of commercial agency agreements with companies of the Bayer Group.

LANXESS’ main competitors are:

Performance Rubber: Dupont Dow Elastomers, ExxonMobil, Goodyear;

Engineering Plastics: BASF, DSM, DuPont, General Electric, Invista, Rhodia;

Chemical Intermediates: BASF, Degussa, Dow Chemical, DSM, Elementis, Jiangsu Yangnong, Kureha, Lonza, Merisol, Rhodia, Rockwood, Tessenderlo and Chinese companies (e.g., Hunan Three-Rings, Dequing Huayuan);

Performance Chemicals: Akzo, Albemarle, Arch Chemicals, BASF, ChiMei, CHT, Ciba, Clariant, Cognis, Dow Chemical, EKA, Ferro, Flexsys, FMC, Hercules, Kemira, LG Chem, Lonza, Mitsubishi Chemical, Nalco, Purolite, Rohm & Haas, Stahl, Sun Chemicals, TFL, Thor.

Research and Development

LANXESS operates research and development facilities throughout the world, with main locations in Leverkusen, Dormagen and Krefeld-Uerdingen (Germany) and Sarnia (Canada). As a recent result of its development activities, LANXESS presented Therban® AT at the trade fair “K 2004”. Therban® AT is a new hydrogenated nitrile rubber grade featuring low Mooney viscosity. Low Mooney viscosity speeds up the “injection molding” process (therefore generally resulting in increased output) and allows for more complex and detailed structures to be manufactured.

INTELLECTUAL PROPERTY PROTECTION

To succeed, Bayer must continually seek new products that provide our customers with better solutions for existing problems and new solutions for emerging problems. This requires us to expend significant effort on research, development, manufacturing and marketing. To preserve the value of our investment, we rely on the patent and trademark laws of the jurisdictions where we do business. In addition, our production technologies typically incorporate specialized proprietary know-how.

We have both developed intellectual property internally and acquired it as assignee through acquisitions. In addition, Bayer may from time to time grant licenses to third parties to use our patents and know-how, and may obtain licenses from others to manufacture and sell products using their technology and know-how.

Patents

We seek to protect our products with patents in major markets. Depending on the jurisdiction, patent protection may be available for:


	•	individual active ingredients;

	•	specific compounds, formulations and combinations containing active ingredients;

	•	manufacturing processes;

	•	intermediates useful in the manufacture of products;

	•	genomic research; and

	•	new uses for existing products.

The protection that a patent provides varies from country to country, depending on the type of claim granted, the scope of the claim’s coverage and the legal remedies available for enforcement. For example, although patent protection in the United States is generally strong, under some circumstances, U.S. law permits generic pharmaceuticals manufacturers to seek regulatory approval of generic products before the patents expire. See Item 8, Financial Information — Legal Proceedings. In addition, some developing countries have announced plans to reduce patent protection for some drugs.

The advance of genomic research has accelerated our patent filings for biological products. We typically seek protection upon determining a gene’s function.

We currently hold thousands of patents, and have applications pending for a significant number of new patents. Although patents are important to our business, we believe that, with the exception of the patents

covering Adalat®, Avelox®, Cipro®, Levitra® and imidacloprid, no single patent (or group of related patents) is material to our business as a whole.


	*Term and Expiration of Patents*

Patents are valid for varying periods, depending on the laws of the jurisdiction granting the patent. In some jurisdictions, patent protection begins from the date a patent application was filed; in others, it begins on the date the patent is granted.

The European Union, the United States, Japan and certain other countries extend or restore patent terms or provide supplementary protection to compensate for patent term loss due to regulatory review and substantial investments in product research and development and regulatory approval. Our policy is to obtain these extensions where possible.

Patent protection in our major markets for some of our key products is scheduled to expire in the near term. Although the expiration of a patent for an active ingredient normally results in the loss of market exclusivity, we may continue to derive commercial benefits from:


	•	subsequently-granted patents on processes and intermediates used in manufacturing the active ingredient;

	•	patents relating to specific uses for the active ingredient;

	•	patents relating to novel compositions and formulations; and

	•	in certain markets (including the United States), market exclusivity under laws other than patent laws.

The following table sets forth the expiration dates in our major markets of the patents covering Adalat®, Avelox®, ciprofloxacin, imidacloprid and vardenafil:


		Market

Product		Germany		France		U.K.		Italy		Spain		Japan		U.S.A.		Canada

Adalat®
	Crystal patent (Retard)		—		—		—		—		—		—		2010		—
	Adalat® CC (Coat Core)		2008		2008		2008		2008		2008		2008		2008		2009
Avelox®
	Compound		2009		2009		2009		2014		2009		2009		2014		2016
	Hydrochloride-Monohydrate		2016		2016		2016		2016		2016		2016		2016		2016
	Tablet formulation		2019		2019		2019		2019		2019		2019		2019		2019
Ciprofloxacin
	Active ingredient		—		—		—		2009		—		—		—		—
	IV formulation		2006		2006		2006		2006		2006		2006		2007		2008
	Tablet formulation		2007		2007		2007		2007		2007		2007		2011		2009
Imidacloprid			2006		2006		2006		2006		2007		2005		2006		2007
Vardenafil compound			2018		2018		2018		2018		2018		2018		2018		2018

See Item 8, Financial Information — Legal Proceedings for a description of patent-related litigation in which we are involved.

Trademarks

Our best-known trademarks include Alka-Seltzer®, Aspirin®, Canesten®, Flint®, One-A-Day®, Rid® and Admire®, as well as the Bayer name itself and our distinctive “Bayer cross”. Trademark protection varies widely throughout the world. In some countries, trademark protection continues as long as the mark is used. Other countries require registration of trademarks. Registrations are generally for fixed but renewable terms. Although our portfolio of trademarks is important to our business, we do not believe that any single trademark is material to Bayer’s business as a whole.

GOVERNMENTAL REGULATION

Our business is subject to significant governmental regulation. Many of our products must be examined and approved by regulatory agencies for safety, environmental impact and effectiveness before we may market them. In addition, all our operations must comply with applicable environmental regulations. Relevant regulations are typically national, although within the European Union (EU), a considerable degree of harmonization exists. The EU institutions have created a common regulatory framework that applies in all of the EU Member States (and that sometimes allows EU Member States to adopt more detailed and more stringent regulations), and has indirect harmonizing effects in certain other European countries.

Product Regulation

The primary emphasis of product regulation is to assure the safety and effectiveness of our products. In the United States, the Food and Drug Administration (FDA) regulates many of our products, primarily in our HealthCare business. In addition, our pharmaceutical facilities typically require regulatory approval and are subject to periodic re-inspection. Comparable regulatory frameworks are in place in other regions as well, such as the EU, Japan, China and in most other industrialized countries.

The Toxic Substance Control Act (TSCA) administered under the U.S. Environmental Protection Agency (EPA) regulates product registrations (PMNs) for new industrial chemicals and polymers and can also regulate existing chemicals under test rules. In addition, the FDA food-contact regulations permit use of many of our chemicals and materials in food-contact applications. Furthermore, the EPA registers biocidal products for use in antimicrobial applications in addition to those for agricultural uses. For industrial chemicals and polymers in the United States, in order to insure proper use and handling, product safety is regulated by the Occupational Safety and Health Administration (OSHA). The OSHA Hazard Communication Standard requires information concerning the hazards of chemicals to be transmitted to our workers and customers through material safety data sheets and precautionary product labels for potential hazards from exposure to chemicals.

Similarly, in the EU as well as in other regions, there are restrictive rules applying to areas including the production, marketing, processing, use and disposal of “dangerous substances and preparations”, food and feeding stuffs and the use of biocides.


	*Pharmaceutical Products*

Pharmaceutical products must be examined and approved by regulatory agencies for safety and efficacy before we may market them. Our pharmaceutical facilities require regulatory approval and are subject to periodic re-inspection. All our operations must comply with applicable quality and environmental regulations.

The various regulatory authorities administer and execute requirements covering the testing, safety, efficacy, labeling, approval, manufacturing, marketing and post-marketing surveillance of prescription pharmaceuticals. Pharmaceutical products must receive regulatory approval before they can be marketed. The regulatory requirements follow stringent standards that vary by country. Before a drug can qualify for marketing approval, a registration dossier must be submitted to a regulatory authority for review and evaluation. The registration dossier principally contains detailed information about the safety, efficacy and quality of a new medication. It also provides details about the manufacturing process, the production facilities and information to be provided to patients. The registration process can last from a few months to a few years and depends on the nature of the medication under review, the quality of the submitted data and the efficiency of the relevant agency. If a drug meets the approval requirements, the regulatory authority will grant a product license for marketing. In some countries, negotiation on pricing and reimbursement follow the grant of the product license. The process of developing a pharmaceutical product from discovery through testing, registration and initial product launch could take approximately ten years but this period varies considerably for different products and countries. For marketed products, the pharmaceutical company is required to monitor adverse reactions and submit periodic reports on these reactions, if any, to the appropriate authorities.

Increasing requirements, mainly from the FDA, have resulted in a higher investment of time and money necessary to develop new products and bring them to market. In recent years, the European Medicines Evaluation

Agency (EMEA) in the EU, the FDA in the United States and the Ministry of Health, Labor and Welfare (MHLW) in Japan have sought to shorten development and registration times for pharmaceutical products by harmonizing the individual requirements of the three regions. This process is called the International Conference on Harmonization. For the foreseeable future, however, we will need to obtain separate approval in each market.


	*Biological Products*

Our Pharmaceuticals, Biological Products segment markets substances known as “biologicals”. Biologicals derive from biological sources (e.g., from human plasma or from cell lines genetically engineered to produce a specific protein). In the United States and other markets, biologicals are regulated more stringently than other drug products. For example, in order to minimize the risk of infectious disease transmission, human plasma-derived products require donor screening and plasma testing, as well as multiple manufacturing steps designed to remove viruses and other infectious agents. Biological products are chemically complex, often depending on a precise structure (e.g., the specific folding of a molecule) for their effectiveness. Regulations require us to subject these products to rigorous testing to ensure stability throughout their shelf life. Because biological products typically cannot withstand conventional sterilization techniques, we must use special processes to ensure sterility. Under applicable regulatory requirements, we must submit detailed documentation to demonstrate appropriate controls over our manufacturing facilities, including associated equipment and supporting utilities such as water supply and climate control.


	*Consumer Care Products*

Most Consumer Care products are subject to regulations similar to those in the Pharmaceuticals segment. In the United States, for example, the FDA and, in part, the Federal Trade Commission, oversee the marketing, manufacturing and labeling of Consumer Care products.


	*Diagnostics Products*

The products of the Diagnostics division are in vitro diagnostic (IVD) products, subject to regulatory controls similar to those governing the development and marketing of pharmaceutical products. In the United States, the FDA regulates IVD products as medical devices, through its Center for Devices and Radiological Health. All manufacturers of medical devices must register their facilities with the FDA. Registered establishments are subject to periodic inspections by FDA investigators to ensure compliance with quality standards.

Most IVD products require FDA clearance or approval before they may be marketed. For devices requiring clearance, where possible we seek to obtain it on the grounds that the new product is “substantially equivalent” to a product the FDA has already cleared. FDA clearance usually takes between two and eighteen months, depending on the degree of novelty involved. For truly new IVD products, we must submit extensive data to the FDA based on actual clinical trials. FDA approval almost invariably involves an inspection of our facilities and a review of our design and manufacturing processes. After obtaining FDA approval, we must report all adverse incidents in which a product was allegedly involved.

In the EU, two Directives regulate these products. The Medical Device Directive governs diagnostic products that come in direct contact with the human body. The IVD Directive, as the name implies, applies to products used in vitro, that is those that do not come in direct contact with the human body. In Japan, a special section of the Pharmaceutical Affairs Law regulates diagnostic products. In Australia and Canada, the applicable laws and regulations are similar to the European model. Many countries in South America and Asia have regulatory requirements similar to those promulgated either by the FDA or the European Commission. All of these requirements involve product registration and approval and the reporting of adverse incidents and corrective actions.


	*Diabetes Care Products*

Diabetes Care products are subject to regulations similar to those in the Diagnostics division. In the United States, for example, the FDA and, in part, the Federal Trade Commission, oversee the marketing, manufacturing

and labeling of Diabetes Care products, while in the EU and in Japan, they are regulated by the Conformite Europeene (CE) and the MHLW, respectively.


	*Animal Health Products*

Veterinary products must be examined and approved by regulatory agencies for quality, safety and efficacy before marketing in all countries. In the United States, the FDA’s Center for Veterinary Medicine is responsible for ensuring that animal drugs are safe and effective for their intended uses and that food from treated animals is safe for human consumption. Animal health products are also regulated in the United States by the U.S. Department of Agriculture (USDA) and the EPA.

In the EU, animal health products are subject to regulations similar to those governing the Pharmaceutical sector. The centralized registration process is also governed by the European Agency for the Evaluation of Medicinal Products in London, but the committee responsible for animal health products is the Committee for Veterinary Medicinal Products (CVMP).

At present, three registration procedures for veterinary use are available within the EU: Centralised Procedure, Mutual Recognition Procedure and National Procedure. The Centralized Procedure results in a single Marketing Authorization throughout the EU. After having submitted the dossier to the EMEA, the scientific evaluation is carried out by the CVMP, which consists of experts from each Member State. The CVMP opinion is then transmitted to the European Commission for its opinion, which, if also favorable, results in a binding decision for authorization in all Member States. A company is obliged to use the Mutual Recognition Procedure if it intends to sell a medicinal product in more than one Member State, but not necessarily throughout the EU. After the product has been granted a Marketing Authorization in one Member State (a so-called “Reference Member State”, or “RMS”, selected by the company), this RMS has to produce an Assessment Report. The Authorities in the other Member States where the product is to be approved receive a copy of the original dossier and a copy of the Assessment Report. They then “mutually recognize” the decision of the RMS. A National Procedure can be used if a company wishes to license a product in just one Member State.


	*Crop Protection Products*

In most countries, Crop Protection products must obtain government regulatory approval prior to marketing. This regulatory framework seeks to protect the consumer, the applicant and the environment. Strict standards are applied in the United States, Japan and in the EU. Because humans may be exposed to these products (for example, through residues on food), the safety assessment considers human risk as well. If the product is used on a food crop, a legal limit for chemical residue is established.

It generally takes seven to nine years from discovery of a new crop protection product until the dossier is submitted to the appropriate regulatory authority for product approval. Afterwards, the authorities usually need another two to four years to evaluate the data submitted in order to decide whether a registration can be granted.

The introduction of new regulations, data requirements or test guidelines is a normal part of enhancing safety assessments for Crop Protection products. However, unpredictable new requirements and inappropriate deadlines have led to numerous delays of registrations of Crop Protection products in the past, especially in the authorization processes in the EU and in the NAFTA countries. Therefore, Bayer CropScience must anticipate new regulatory trends and must closely follow the process of developing and requiring new data. Bayer CropScience also actively participates in these processes by commenting on draft regulations proposed by the authorities.


	*Environmental Science Products*

In both the professional and the consumer pest control business, as in crop protection, our products must obtain regulatory approval prior to marketing. In most countries, Environmental Science products are regulated by authorities other than those which regulate the Crop Protection products. The regulatory requirements are often different from Crop Protection products, due to different routes of exposure. Generally, there is an increase of regulatory requirements, in particular in the United States, Europe and Japan. To some extent, the regulatory

files developed for Crop Protection products with the same active ingredients can also be used for the regulatory purposes in the Environmental Science area.

In the EU, certain products sold in the professional pest control area, as well as pest control products available to consumers, fall under the Biocidal Products Directive (BPD), which requires that complete regulatory dossiers be developed before placing these products or active substances for use in such products on the EU market. Certain green industry products and consumer lawn and garden products are governed by the Plant Protection Directive, which requires authorization before products can be placed on the market.

In the United States, registration of Environmental Science products is granted by the EPA. There has been an increase of registration requirements due to the implementation of the Food Quality Protection Act (FQPA), which considers both dietary and non-dietary exposure aspects. Certain food-related regulatory requirements exist in other areas, notably in the EU.

The review period for registration depends on the country and could vary from two to five years for a product containing a new active ingredient.


	*BioScience Products*

Plant biotechnology products, marketed by our BioScience business group, in particular those based on genetic modification, are subject to specific regulatory oversight covering environmental impact as well as use and trade of products and derivatives in food and feed. The number of countries that have regulatory frameworks concerning plant technology is increasing each year and, in countries that already have such regulations, the requirements are also increasing or changing. The most important countries, based on their importance to us as an agricultural center and/or trading partner, include the United States, Canada, the EU, Japan, Brazil, Argentina, Australia and China. In the United States, the main regulatory authorities are the USDA, the FDA and the EPA. The EU has implemented a set of new regulations including the creation of a new EU Food Safety Authority. Similar regulations in Japan are under review and being updated. Many Asian countries have developed regulatory frameworks over the last few years, most recently China, Taiwan, Korea and the Philippines. With the Cartagena Protocol on BioSafety, which came into force in September 2003, it is expected that more countries will establish relevant regulatory frameworks over the next few years.

The timeframe for approvals varies substantially around the world. The development of the regulatory file will take two to three years. In the United States, Canada and Japan, the review of a regulatory file will typically take another one to two years. In the EU, however, no approvals have been granted over the last five years, during which time the regulations have been updated.

Proposed new EU Regulations

We must comply with an increasing range of regulatory measures concerning testing, manufacturing and marketing of our products. In some countries, including the United States, regulatory controls have become increasingly demanding. We expect this trend to continue and expand to other countries.

Within the European Union a new chemicals policy has been proposed and may become effective in 2006/2007. It will mandate a significant increase in the testing and assessment of all chemicals used, leading to increased costs and reduced operating margins for these products.

In addition, the EU directive on emissions trading may affect Bayer’s business opportunities, especially in Europe. The directive requires EU member states to meet the carbon dioxide emissions targets set for each member state under EU legislation and based on the Kyoto Protocol. Emissions levels have to be reduced by 21 percent in Germany and 7.5 percent in Belgium, in each case based on 1990 carbon dioxide emission levels. Compliance may require material capital expenditures in the future depending on developments in the market for emissions trading.

A communication entitled “European Environment and Health Strategy” was published by the Commission of the EU in June 2003 (SCALE). The strategy is intended to reduce the burden of disease caused by environmental factors in the EU by identifying and preventing new health threats caused by environmental

factors. In furtherance of this strategy, the Commission adopted the European Environment and Health Action Plan for 2004 - 2010 on June 9, 2004. Currently, specific consequences of SCALE on our business cannot be estimated, but we are monitoring further developments and participate in relevant stakeholder processes.

Health, Safety and Environmental Regulations

The production and distribution of Bayer products involves the use, storage, transportation, handling and disposal of toxic and hazardous materials. We are subject to increasingly stringent environmental regulations, which address:


	•	emissions into the air;

	•	discharges of waste water;

	•	incidental and other releases into the environment;

	•	generation, handling, storage, transportation, treatment and disposal of hazardous and non-hazardous materials; and

	•	construction and operation of facilities.

It is our policy to comply with all health, safety and environmental requirements and to provide workplaces for employees that are safe. We track, check and evaluate all environmental legal initiatives and laws regarding their potential impact on our actual and past activities in order to develop appropriate measures in a timely and effective manner. When necessary, we incur capital expenditures to ensure this. We expect that Bayer will continue to be subject to stringent environmental regulation. Although we cannot predict future expenditures, we believe that current spending trends will continue.

We are subject to regulations that may require us to remove or mitigate the effects of the disposal or release of chemical substances into the environment. Under some of these regulations, a current or previous owner or operator of property may be held liable for the costs of remediation on, under, or in the property, without regard as to whether it knew of or caused the presence of the contaminants, and regardless of whether the practices that resulted in the contamination were legal at the time they occurred. As many of our industrial sites have long histories, we cannot predict the full impact of these regulations on us. We cannot assure that soil or groundwater contamination will not occur or be discovered.

In the United States, we are subject to potential liability under the U.S. Federal Comprehensive Environmental Response, Compensation, and Liability Act (commonly known as “Superfund”), the U.S. Resource Conservation and Recovery Act and related state laws for investigation and clean-up costs at a number of sites. At many of these sites, companies including Bayer have been notified that the EPA, the state governing body or private individuals consider such companies to be potentially responsible parties under Superfund or related laws. The proceedings relating to these sites are in various stages. The clean-up process at many sites is ongoing. We regularly review the liabilities for these sites and have accrued our best estimate of our ultimate liability for investigation or clean-up costs.

It is difficult to estimate the future costs of environmental protection and remediation because of uncertainties about the status of regulations, their future developments, and information related to individual sites, products and facilities. Taking into consideration our experience and currently known facts, we believe that capital expenditures and remedial actions to comply with environmental regulations will not have a material adverse effect on our financial position, results of operations or cash flows. As of December 31, 2004, we had reserved €303 million for environmental matters.

We believe that we are in substantial compliance with applicable health, safety and environmental laws and regulations. We devote considerable attention to the health and safety of our employees and the protection of public health and the environment. As a member of the International Council of Chemical Associations (ICCA) and the American Chemistry Council, Bayer is committed to the principles of Responsible Care®, the chemical industry’s health, safety and environmental performance improvement initiative. Although this compliance has not adversely affected our competitive position or business, we cannot predict the impact of

possible future regulations. Although we have adopted measures to address the stricter regulations, such as increasing the efficiency of our internal research and development process in order to reduce the impact of extended testing on time-to-market, stricter regulatory regimes could delay product development or restrict marketing and sales.

ORGANIZATIONAL STRUCTURE

As the strategic holding company of the Bayer Group, Bayer AG determines the long-term strategy for the Group and its subgroups and prescribes guidelines and principles for the corporate policy derived therefrom. Bayer AG holds equity interests in the subgroup management companies and the service companies (described below) and also in other domestic and foreign entities. The Bayer Group is managed by the four-member Board of Management of Bayer AG, which is supported by the Corporate Center. The Board of Management is responsible for the oversight of management and for the Group’s financial management.

The Corporate Center, which provides services against payment in particular to the subgroup management companies, consists of the following corporate center functions: the Corporate Office; Communications; Investor Relations; Corporate Auditing; Corporate Human Resources & Organization; Corporate Development; Law & Patents, Insurance; Finance; Group Accounting and Controlling; Governmental & Product Affairs; and Regional Coordination.

After the spin-off of the LANXESS subgroup, effective January 28, 2005, the Bayer Group conducts its business operations in the three subgroups Bayer HealthCare, Bayer CropScience and Bayer MaterialScience. The management companies Bayer HealthCare AG, Bayer CropScience AG and Bayer MaterialScience AG, heading up the subgroups, manage the business activities of the domestic and foreign affiliates assigned to them. Each subgroup is, within the framework of strategies, goals and guidelines determined by the Bayer AG Board of Management, an independent operating area with worldwide business accountability and its own management. Each of the subgroup management companies has entered into a control and profit and loss transfer agreement with Bayer AG.

Three legally independent service companies, Bayer Technology Services GmbH, Bayer Business Services GmbH and Bayer Industry Services GmbH & Co. OHG (in which Bayer AG owns a 60 percent stake and LANXESS Deutschland GmbH a 40 percent stake), provide support functions to the three subgroups as well as to Bayer AG.

For more information on our current organizational structure, see — Business.

Subsidiaries

The following table lists Bayer AG’s principal consolidated subsidiaries as of December 31, 2004 and its beneficial ownership interest in each.


	Bayer’s
Company Name and Place of Business	Interest

	(%)
*Germany*
Bayer Chemicals AG, Leverkusen		100
Bayer CropScience AG, Monheim		100
Bayer CropScience Deutschland GmbH, Langenfeld		100
Bayer CropScience GmbH, Frankfurt		100
Bayer HealthCare AG, Leverkusen		100
Bayer MaterialScience AG, Leverkusen		100
Bayer Vital GmbH, Leverkusen		100
H.C. Starck GmbH, Goslar		100
LANXESS Deutschland GmbH, Leverkusen		100


	Bayer’s
Company Name and Place of Business	Interest

	(%)
*Other European Countries*
Bayer Antwerpen N.V., Belgium		100
Bayer Biologicals S.r.I., Italy		100
Bayer CropScience France S.A.S., France		100
Bayer CropScience Limited, U.K.		100
Bayer CropScience S.A., France		100
Bayer Diagnostics Europe Ltd., Ireland		100
Bayer International S.A., Switzerland		100
Bayer Pharma S.A.S., France		100
Bayer Polimeros S.L., Spain		100
Bayer Polyurethanes B.V., Netherlands		100
Bayer Public Limited Company, U.K.		100
Bayer S.p.A., Italy		100
LANXESS International SA, Switzerland		100
LANXESS N.V., Belgium		100
Quimica Farmaceutica Bayer S.A., Spain		100
*North America*
Bayer CropScience LP, USA		100
Bayer HealthCare LLC, USA		100
Bayer Inc., Canada		100
Bayer MaterialScience LLC, USA		100
Bayer Pharmaceuticals Corporation, USA		100
*Asia/ Pacific*
Bayer CropScience K.K., Japan		100
Bayer Korea Ltd., Republic Korea		100
Bayer MaterialScience Limited, Hong Kong		100
Bayer Medical Ltd., Japan		100
Bayer South East Asia Pte Ltd., Singapore		100
Bayer Thai Company Limited, Thailand		99.98
Bayer Yakuhin, Ltd., Japan		100
H.C. Starck-V TECH Ltd./ Japan		100
Sumika Bayer Urethane Co., Ltd., Japan		60
*Latin America/ Africa/ Middle East*
Bayer CropScience Ltda., Brazil		100
Bayer de Mexico, S.A. de C.V., Mexico		100
Bayer (Proprietary) Limited, South Africa		100
Bayer S.A., Brazil		100
Bayer S.A., Argentina		100

Also included in the consolidated financial statements are the following material associated companies:


	Bayer’s
Company Name and Place of Business	Interest

	(%)
Lyondell Bayer Manufacturing Maasvlakte VOF, Netherlands		50
PO JV, LP Corporation, USA		42.7

PROPERTY, PLANTS AND EQUIPMENT

We operate through a large number of offices, research facilities and production sites throughout the world. The principal executive offices of Bayer AG are located in Leverkusen, Germany. Our key production facilities are located in Germany and the United States. We also have other properties, including office buildings, laboratory and research laboratories and distribution centers throughout the world. For the major production and R&D facilities by segment please refer to Item 4, Information on the Company — Market and Distribution and — Research and Development for each of the segments.

Our policy is to acquire full ownership rights in our manufacturing facilities whenever possible. We own most of our manufacturing facilities and other properties. Where locally applicable law does not permit this or acquisition of full property rights is otherwise unfeasible, we acquire possessory interests conferring substantially the same rights of use as ownership (for example, German-law hereditary building rights or Erbbaurechte and granted land-use rights in Asian countries).

We believe that our production plants and manufacturing facilities have capacities adequate for our current and projected needs.

The following table summarizes our major production facilities by subgroup:


		Size in
		Thousand
Location		Square Meters		Major Use

Bayer HealthCare
	Leverkusen, Germany		135	Formulation and packaging of pharmaceutical products
	Wuppertal, Germany		448	Production of active ingredients for ethical pharmaceutical products, research and development
	Berkeley, California		186	Production of recombinant FVIII
	Myerstown, Pennsylvania		250	Formulation and packaging of Consumer Care products
	Mishawaka, Indiana		131	Production of instruments for Diabetes Care division
Bayer CropScience
	Monheim, Germany		651	Research and development for the business groups Crop Protection and Environmental Science, headquarters of Bayer CropScience AG
	Frankfurt, Germany		261	Research and development as well as production and formulation for Crop Protection and Environmental Science
	Dormagen, Germany		142	Production and formulation for Crop Protection and Environmental Science
	Kansas City, Missouri		850	Production and formulation for Crop Protection
	Haelen, The Netherlands		500	Research and development as well as production for the business group BioScience (Seeds)
Bayer MaterialScience
	Krefeld-Uerdingen, Germany		3,700	Production of polycarbonates, diphenylmethane diisocyanates, chlorine, caustic soda, hydrochloric acid and hydrogen
	Baytown, Texas		6,870	Production of base- and modified isocyanates, polycarbonates, diphenylmethane diisocyanates, toluene diisocyanates, chlorine, caustic soda, hydrochloric acid and hydrogen
	Dormagen, Germany		5,858	Production of modified isocyanates, resins, polycarbonate films, toluene diisocyanates, polyether, thermoplastic polyurethanes, chlorine, caustic soda, hydrochloric acid and hydrogen
	Antwerp, Belgium		1,580	Production of polycarbonates, aniline, nitrobenzene and polyether
	Brunsbüttel, Germany		3,300	Production of diphenylmethane diisocyanates, toluene diisocyanates, chlorine, hydrochloric acid and hydrogen

For information on environmental issues relating to Bayer’s properties see Item 4, Information on the Company — Health, Safety and Environmental Regulation. Additional information regarding Bayer’s property, plant and equipment is contained in Item 5, Liquidity and Capital Resources — Capital expenditures and in the Notes to the Consolidated Financial Statements of the Bayer Group — 19 Property, plant and equipment.


Item 5.	*Operating and Financial Review and Prospects*

Prospective investors should read the following operating and financial review and prospects together with the consolidated financial statements and the notes to those financial statements included elsewhere in this annual report on Form 20-F. We have prepared these financial statements in accordance with IFRS, which differs in some respects from U.S. GAAP. For a reconciliation of net income and stockholder’s equity to U.S. GAAP, see Note 44 to our consolidated financial statements.

The forward-looking statements in this Item 5 are not guarantees of future performance. They involve both risk and uncertainty. Several important factors could cause our actual results to differ materially from those anticipated by these statements. Many of those factors are macroeconomic in nature and are, therefore, beyond the control of our management. See — Forward-Looking Information.

We have based the presentation of our results in this section on certain significant accounting assumptions. For a more detailed description of these assumptions, see — Critical Accounting Policies, below.

2002 and 2003 figures for operating result, non-operating result, operating expenses as well as related key figures have been restated because of a change in the reporting of funded pension obligations. For more details, refer to Note 7 to the consolidated financial statements appearing in the F-pages in this annual report on Form 20-F.

OVERVIEW

We are a global company focusing on our strengths in the fields of health care, nutrition and innovative materials. Our goal is to strengthen the competitiveness of our businesses in the HealthCare, CropScience and MaterialScience subgroups by concentrating on the special needs of these businesses.

Bayer comprises the parent company, Bayer AG of Leverkusen, Germany, and approximately 350 consolidated subsidiaries. Until the spin-off of the LANXESS subgroup, we were organized into seven business segments — Pharmaceuticals, Biological Products; Consumer Care, Diagnostics; Animal Health; CropScience; Materials; Systems and LANXESS. For further information on our organizational structure, see Item 4, Information on the Company — Business and — Organizational Structure.

To streamline our portfolio and to concentrate on our core businesses, we selectively divest businesses and assets that no longer fit our strategic plan. For our principal acquisitions and divestitures during the last three years, refer to Item 4, Information on the Company — History and Development of the Company and Item 5, Operating and Financial Review and Prospects — Acquisitions and Dispositions.

In 2004, we placed the former Chemicals business (except H.C. Starck and Wolff Walsrode) and those parts of the former Polymers business that we had decided were no longer core businesses, into the LANXESS subgroup. We moved this subgroup into its own corporate structure in the course of 2004 in preparation for the spin-off. The activities of the former Polymers and Chemicals business remaining with Bayer have been combined in the Bayer MaterialScience subgroup. The spin-off of the LANXESS subgroup became effective with the registration of the spin-off in the Commercial Register (Handelsregister) for Bayer AG on January 28, 2005. The shares of LANXESS AG have been listed on the Frankfurt Stock Exchange since January 31, 2005. In accordance with IAS 35, those portions of our business that were combined into our LANXESS subgroup (i.e., the LANXESS segment) and subsequently spun off, are shown as “discontinuing operations” in the consolidated financial statements and the notes to those financial statements included elsewhere in this annual report on Form 20-F. We have restated the comparable information for past periods to segregate the LANXESS businesses from our continuing operations. The discontinuing operations data are intended to present the LANXESS subgroup as an integral part of Bayer and not on an independent group basis. For a discussion of the risks and uncertainties facing us in connection with the LANXESS spin-off, please see Item 3, Risk Factors — Our transactions relating to LANXESS expose us to continuing liability and Item 10, Material Contracts.

In December 2004, we contracted to sell our plasma business to two U.S. financial investors. This transaction is expected to close in the first half of 2005.

The following table sets forth net sales, operating result and net income (loss) from discontinuing operations attributable to each of the individual discontinuing operations shown in our financial statements for the three years under review and the segments to which they relate.


																		Haarmann &						Total Discontinuing
	LANXESS								Plasma									Reimer						Operations

	2002			2003			2004		2002			2003			2004			2002		2003		2004		2002		2003			2004

	(Euros in millions)								(Euros in millions)									(Euros in millions)						(Euros in millions)
Net sales		6,241			5,776			6,053		679			613			660			666		—		—		7,586		6,389			6,713
Operating result		(128	)		(1,290	)		74		(113	)		(349	)		(56	)		978		—		—		737		(1,639	)		18
Net income (loss)		(104	)		(992	)		9		(126	)		(226	)		(56	)		954		—		—		724		(1,218	)		(47	)
Affected segments	LANXESS								Pharmaceuticals,									Reconciliation
									Biological
									Products

CRITICAL ACCOUNTING POLICIES

Critical accounting and valuation policies and methods are those that are both most important to the portrayal of the Bayer Group financial condition and results of operations, and that require the application of difficult, subjective and complex judgments, often as a result of the need to make estimates about the effects of matters that are inherently uncertain and may change in subsequent periods.

The significant accounting and valuation policies and methods of the Bayer Group are outlined in the Notes to the Financial Statements. While not all of the significant accounting policies require difficult, subjective or complex judgments, the Board of Management of Bayer AG believes that the following accounting policies could be considered critical.

Use of Estimates

The preparation of all financial statements includes the use of estimates and assumptions that affect a number of amounts included in our financial statements, including employee benefit costs and related disclosures, inventory valuations, sales allowances, income taxes and contingencies. We base our estimates on historical experience and other assumptions that we believe are reasonable. If actual amounts are ultimately different from estimates, revisions are included in our results of operations for the period in which the actual amounts become known. Historically, the aggregate differences, if any, between our estimates and actual amounts in any year have not had a significant impact on our consolidated financial statements.

Intangible assets and property, plant and equipment

Intangible assets (including, prior to 2005, goodwill) and property, plant and equipment are amortized over their estimated useful lives. The estimated useful lives are based on estimates of the period during which the assets will generate revenue.

Intangible assets and property, plant and equipment are tested for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets may no longer be recoverable. Impairment testing under IAS 36 (Impairment of Assets) requires the Board of Management of Bayer AG to compare the carrying value of the assets to the estimated discounted future cash flows from the related assets. Estimating the discounted future cash flows involves significant assumptions, including particularly those regarding future sales prices and sales volumes, costs and risk-adjusted discount rates. The discounting process is also based on assumptions and estimations relating to business-specific costs of capital, which in turn are based on country risks, credit risks and additional risks resulting from the volatility of the respective line of business as well as the relevant capital structure of the Bayer company in question.

In November 2003, in light of the strategic realignment of our Group, and the changing business conditions for portions of it, we considered it necessary to review the carrying amount of its global assets as part of an impairment test conducted in accordance with IAS 36.

Although the Board of Management of Bayer AG believes that its estimates of the relevant expected useful lives, its assumptions concerning the macroeconomic environment and developments in the industries in which the Bayer Group operates and its estimations of the discounted future cash flows are appropriate, changes in assumptions or circumstances could require changes in the analysis. This could lead to additional impairment charges in the future or to valuation write-backs should the trends identified by the Board of Management of Bayer AG reverse (or its assumptions or estimates prove incorrect).

Until the end of 2004, Bayer amortized goodwill in accordance with its scheduled useful life for goodwill balances arising from business combinations with an agreement date prior to March 31, 2004. Beginning January 1, 2005, under IFRS, any goodwill will cease to be amortized and require an annual impairment review at the reporting unit level. An impairment exists if the book value of the goodwill at the reporting unit exceeds the fair value. For business combinations with agreement dates on or after March 31, 2004, IFRS 3 must be applied as from the date of the first consolidation, even if such first consolidation was effected prior to January 1, 2005. Accordingly, goodwill arising out of such business combinations was not amortized in 2004 but reviewed for impairment. In general, the process of evaluating goodwill involves making adjustments and estimates relating to the projection and discounting of future cash flows. All assets and liabilities acquired have to be recorded at the date of acquisition at their respective fair value in a purchase business combination, all other assets are accounted at acquisition cost. One of the most significant estimates relates to the determination of the fair value of assets and liabilities acquired. Land, buildings and equipment are usually independently appraised while marketable securities are valued at market price. If any intangible assets are identified, depending on the type of intangible asset and the complexity of determining its fair value, we either consult with an independent external valuation expert or develop the fair value internally, using an appropriate valuation technique which is generally based on a forecast of the total expected future net cash flows. These evaluations are linked closely to the assumptions made by the Board of Management of Bayer AG regarding the future performance of the assets concerned and any changes in the discount rate applied. An increase in the discount rate increases the likelihood of impairment charges.

Research and Development

We invest significant financial resources in our research and development activities on an ongoing basis. This is necessary to maintain continued success in the research- and technology-intensive markets in which we are active. In addition to our in-house research and development activities, especially in our health care business, we maintain various research and development collaborations and alliances with third parties, under which we are required to fund costs and/or pay for the achievement of performance milestones. For accounting purposes, research expenses are defined as costs incurred for original and planned investigations undertaken with the prospect of gaining new scientific or technical knowledge and understanding. Development expenses are defined as costs incurred for the application of research findings or specialist knowledge to production, production methods, services or goods prior to the commencement of commercial production or use. We expense all research costs as incurred. With regard to the regulatory approval process and other uncertainties relating to the development project, the conditions for the capitalization of costs incurred prior to the approval are also not satisfied and the respective costs therefore expensed as incurred. With respect to costs incurred in collaborations and alliances with third parties, considerable judgment can be involved in assessing whether milestone-based payments simply reflect the funding of research, in which case expensing would always be required, or whether, by making a milestone payment, we acquire an asset which has alternative uses. In the latter case, we capitalize the relevant costs.

Revenue Recognition

We recognize revenue when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, our prices are fixed or determinable, and collectibility is assured. Accordingly, we generally recognize revenue in connection with the sale of a product when the title passes to the customer and the above criteria have been met. In some businesses, it is customary to provide discounts. We recognize allocations to provisions for discounts and rebates to customers in the same period in which the related sales are recorded based on the contract terms, using a consistent methodology. We estimate the cost of our sales incentives based on our

historical experience with similar incentive programs. For rebates, we record our provisions based upon our experience ratio to the respective period’s sales to determine the rebate accrual and related expense. We believe that our current provisions appropriately reflect our exposure to discount and rebate payments.

In some businesses we generate a substantial portion of our revenues from licensing agreements under which we grant third parties rights to certain of our products and technologies. We record upfront payments and other similar non-refundable payments received under these agreements as deferred revenue and recognize them in income over the estimated performance period stipulated in the agreement. Non-refundable milestone payments which represented the achievement of a significant technical/regulatory hurdle in the research and development process, pursuant to collaborative agreements, are recognized as revenue upon the achievement of the specified milestone. We also generate revenues from our collaborative research and development as well as co-promotion arrangements. Such agreements may consist of multiple elements and provide for varying consideration terms, such as upfront, milestone and similar payments, which are complex and require significant analysis by management in order to determine the most appropriate method of revenue recognition. Where an arrangement can be divided into separate units of accounting (each unit constituting a separate earnings process), the arrangement consideration is allocated amongst those varying units based on their relative fair values and recognized over the respective performance period. Where the arrangement cannot be divided into separate units, the individual deliverables are combined as a single unit of accounting and the total arrangement consideration is recognized over the estimated collaboration period. Such determinations require us to make certain assumptions and judgments.

Pensions and other benefit obligations

We sponsor pension and other retirement plans in various forms covering employees who meet the plans’ eligibility requirements. These plans cover the majority of our employees. We use several statistical and other models, that attempt to anticipate future events in calculating the expenses and liabilities related to the plans. These models include assumptions about the discount rate, expected return on plan assets and rate of future compensation increases. The discount rate is largely based upon an index of high-quality fixed income investments at the plans’ respective measurement dates. The assumption for the expected return-on-assets reflects a long-term outlook for global capital market returns that match the duration of the pension obligation as well as a diversified investment strategy. The expected return is applied to the fair market value of plan assets at each year end. In addition, we also use statistical information such as withdrawal and mortality rates to estimate the expenses and liabilities under the plans. The expenses and liabilities that in fact arise under the plans may be materially different from the estimates we make based on the actuarial assumptions we have used due to changing market and economic conditions. The plan assets are partially comprised of equity and fixed-income instruments. Therefore, declining returns on equity markets and markets for fixed-income instruments could necessitate additional contributions to the plans in order to cover future pension obligations. Also, higher or lower withdrawal rates or longer or shorter life of participants may result in a significant impact on the amount of pension income or expense recorded in the future.

Doubtful accounts

Doubtful accounts are reported at the amounts likely to be recoverable based on our historical experience of our customer defaults. As soon as we learn that a particular account is subject to a risk over and above the normal credit risk (e.g., low creditworthiness of customer, dispute as to the existence or the amount of the claim, nonenforceability of the claim for legal reasons, etc.), the account is analyzed and written down if circumstances indicate the receivable is uncollectible.

Environmental provisions

The business of the Bayer Group is subject to a variety of laws and regulations in the jurisdictions in which it operates or maintains properties. Provisions for expenses that may be incurred in complying with such laws and regulations are set aside if environmental inquiries or remediation measures are probable, the costs can be reliably estimated and no future benefits are expected from such measures. Significant factors in estimating the costs include previous experiences in similar cases, expert opinions regarding environmental programs, current costs

and new developments affecting costs, management’s interpretation of current environmental laws and regulations, the number and financial condition of third parties that may become obligated to participate in any remediation costs on the basis of joint liability, and the remediation methods which are likely to be deployed. Changes in these assumptions could impact future reported results. Under the German Transformation Act, Bayer AG and LANXESS AG are jointly and severally liable for all obligations of Bayer AG that existed on January 28, 2005. The company to which the respective obligations were not assigned under the Spin-off and Acquisition Agreement, dated September 22, 2004, between Bayer AG and LANXESS AG ceases to be liable for such obligations after a five-year period. The Master Agreement, entered into between the same parties contemporaneously with the Spin-off and Acquisition Agreement, includes corresponding indemnification obligations of Bayer AG and LANXESS AG. In addition, it contains provisions dealing with the apportionment of liability arising from product liability claims, environmental claims and antitrust violations as between the contracting parties. Changes in these assumptions could impact future reported results. For more details on the Spin-off and Acquisition Agreement and the Master Agreement, see Item 10, Additional Information — Material Contracts. These agreements are also attached as Exhibits 4.1 and 4.2, respectively, to this annual report on Form 20-F.

Litigation provisions

We are involved in a number of legal proceedings. As a global company, we are currently exposed to, and may in the future become involved in, proceedings in the ordinary course of our business relating to such matters as


	•	product liability;

	•	patent validity and infringement disputes;

	•	tax assessments;

	•	competition and antitrust; and

	•	past waste disposal practices and release of chemicals into the environment.

The outcome of the currently pending and future proceedings cannot be predicted with certainty. Thus, an adverse decision in a lawsuit could result in additional costs that are not covered, either wholly or partially, under insurance policies and that could significantly impact the business and results of operations of the Bayer Group. If the Bayer Group loses a case in which it seeks to enforce its patent rights, a decrease in future earnings could result as other manufacturers could be permitted to begin to market products that the Bayer Group or its predecessors had developed.

We evaluate litigation and administrative proceedings on a case-by-case basis and consider the available information, including that from both our external and internal legal counsel, to assess potential outcomes. Where it is possible, we evaluate whether a potential liability exists and whether that potential is remote, possible but not probable or probable, and accrue a liability based on our best estimate of the potential liability and its likelihood.

When liabilities are deemed to be both probable and measurable, we recognize accruals for potential loss. When we are unable to determine whether the outcome is probable or unable to make a determination about the amount of possible loss, we do not record a liability but recognize any related expense as it is incurred.

Litigation and other judicial proceedings as a rule raise difficult and complex legal issues and are subject to many uncertainties and complexities including, but not limited to, the facts and circumstances of each particular case, issues regarding the jurisdiction in which each suit is brought and differences in applicable law. Upon resolution of any pending legal matter, the Bayer Group may be forced to incur charges in excess of the presently established provisions and related insurance coverage. It is possible that the results of operations and cash flows could be materially affected by an ultimately unfavorable outcome of litigation.

Income taxes

We are required to make estimates for purposes of determining provisions for income taxes and deferred tax assets.

In addition, estimates must be made to determine whether valuation allowances are required against deferred tax assets. Such valuation allowances are recognized when it is no longer sufficiently certain that the assets will be realized. Uncertainties exist with respect to the interpretation of complex tax regulations and the amount and timing of future taxable income. Any differences between actual results and our assumptions, or any future changes to such assumptions could result in adjustments to tax expense in future periods.

OPERATING RESULTS 2002, 2003 AND 2004

Introduction


	*Most significant drivers of our sales, results of operations and cash flows in 2004*

The most significant drivers of our sales, results of operations and cash flows in 2004 were:


	•	Changes in exchange rates — i.e., the effects on our results of operations of the substantial strengthening of the euro against other currencies, especially the U.S. dollar;

	•	Raw materials, pricing — i.e., the effects on our results of operations of the increased prices of petrochemical raw materials, other precursors and energy;

	•	Our incurrence of other charges that we view as special, consisting primarily of provisions established and other expenses incurred in connection with legal matters (special charges did not affect our sales, results of operations and cash flows to the same extent as they did in 2003, when we incurred substantial impairment charges, unscheduled amortization expenses and other write-downs), which are discussed in — Reconciliation from operating result to operating result before special items; and

	•	The general economic situation and recovery of some user industries in the course of 2004.


	Changes in Exchange Rates

Our net sales and our operating result were significantly affected during 2004 by changes in exchange rates. Because a substantial portion of our assets, liabilities, sales and earnings are denominated in currencies other than the euro zone currencies, we have exposure to fluctuations in the values of these currencies relative to the euro. These currency fluctuations, especially the fluctuation of the value of the U.S. dollar relative to the euro, but also fluctuations in the currencies of the countries in which we have significant operations and/or sales, can have a material impact on our results of operations. We face both transaction risk, where our businesses generate sales in one currency but incur costs relating to that revenue in a different currency, and translation risk, which arises when we translate the income statements of our subsidiaries into euro for inclusion in our financial statements. We do not quantify the effects on our financial statements of transaction risks. Translation risks, which we do quantify and against which we do not hedge, do not affect our local currency cash flows or results of operations, but do affect our consolidated financial statements. For further information on transaction and translation risk, see Item 11, Quantitative and Qualitative Disclosures about Market Risk — Currency Risk.

In general, declines in the value of the U.S. dollar relative to the euro, such as those that occurred in 2004, will decrease the euro value of our sales and earnings made in the dollar zone and decrease the competitiveness of our products produced in Europe in the United States and in other countries with falling currencies.

In 2004, the euro appreciated substantially against the dollar and other currencies. This adversely affected our net sales in cases in which products are sold at prices denominated in one of the currencies against which the euro strengthened. To the extent that our non-euro denominated expenses do not match our non-euro denominated

sales, our operating result is also adversely affected by these translation effects. The following table sets forth the exchange rates for the euro of currencies important for our results of operations during 2004:


	Units of Foreign Currency per Euro

					Average For the
					Year Ended
	At December 31,				December 31,

	2003		2004		2003		2004

Argentinean peso		3.70		4.05		3.33		3.66
Brazilian real		3.66		3.62		3.47		3.64
Canadian dollar		1.62		1.64		1.58		1.62
British pound		0.70		0.71		0.69		0.68
Japanese yen		135.05		139.65		130.96		134.40
Mexican peso		14.18		15.23		12.22		14.04
Swiss franc		1.56		1.54		1.52		1.54
U.S. dollar		1.26		1.36		1.13		1.24

The translation effects of these exchange rate changes had a negative impact on our sales in 2004, decreasing them by €1.2 billion (compared to a decrease of €2.5 billion in 2003 and €1.5 billion in 2002). The discussion of our operating results below includes sales figures adjusted for these translation effects. These adjusted sales figures represent the sales that we would have generated had the average exchange rates we used to translate our non-euro denominated revenues into euros remained constant in the year under review as compared with the previous year, rather than declining as they in fact did in both 2003 and 2004. For further information concerning our exchange rate exposure, see Item 11, Quantitative and Qualitative Disclosures about Market Risk.


	Raw Materials, Pricing

The single most important factor that affects our costs is the price of raw materials for our products. Petrochemical feedstocks are important raw materials in many of our products, especially in our Materials and Systems segments. We do not produce petrochemical raw materials. For this reason and due to the volatility of oil and petroleum derivative prices in recent years, our single greatest raw materials sensitivity is to fluctuations in the price of petrochemicals. In 2004, these prices were about 25 percent above the average prices in 2003. Especially in the second half of 2004, we faced historically high prices for aromatics and olefins.


	General Economic Situation

The global economy showed a marked improvement in 2004, expanding by around 4 percent, the principal growth engines being the United States and China. Over the course of the year, the economy slowed due to the sharp rise in oil prices and weaker economic policy impulses. The economy nevertheless remained on an expansionary course, especially as the situation on the crude oil markets eased somewhat in the fall.

Economic development in the euro zone was comparatively restrained in 2004. The economy was buoyed primarily by foreign demand, while domestic demand picked up only slowly during the year. The recovery in Germany continued thanks to strong export demand, but began to run out of steam in the second half as the global economy slowed, there being little stimulus from private consumption.

The U.S. economy continued to expand in 2004. Growth decelerated as time went on, but picked up again slightly toward the end of the year. The positive trend was supported by a sustained high level of private consumption and corporate investment, while the firm recovery on the employment market boosted overall consumer confidence.

The rapid pace of growth in the Asia-Pacific region as a whole slowed somewhat during the year due to constrained foreign demand, with widely divergent trends especially in the important markets of China and Japan. In China, even higher oil prices and policy measures aimed at cooling the economy have so far done little to slow the boom. By contrast, the upswing in Japan has leveled off since the summer of 2004. Both exports, which

suffered from the appreciation of the yen, and domestic demand have weakened despite adherence to an expansionary monetary policy.

The economy in Latin America grew strongly in 2004, although the outlook became somewhat less bright toward the end of the year. The robust growth in this region — due more than anything to high raw material prices — was aided by industrial exports, which benefited from global economic expansion, and by historically low interest rates.


	*Effects on net sales from acquisitions and divestitures*

Acquisitions and divestitures during 2004 and 2003 had a negative effect on net sales in 2004 of €224 million, and acquisitions and divestitures during 2003 and 2002 had a negative effect on net sales in 2003 of €95 million. These portfolio changes affected the comparison between the three years’ sales figures as shown in the following two tables:


	Change in 2004
	from 2003

	(Euros in
	millions)
Acquisitions
Gustafson		34
Other		11

		45

Divestitures
Dispositions in compliance with antitrust conditions in connection with purchase of Aventis CropScience		(100	)
PolymerLatex group (divested in 2003)		(62	)
Walothen GmbH (divested in 2003)		(47	)
Household insecticides business (divested in 2003)		(25	)
Animal Health vaccines (divested in 2003)		(16	)
Bayer Shell (divested in 2003)		(15	)
Other		(4	)

		(269	)

Net effects on sales		(224	)


	Change in 2003
	from 2002

	(Euros in
	millions)
Acquisitions
Aventis CropScience Holding S.A. (acquired in 2002)		1,450
Visible Genetics Inc. (acquired in 2002)		9
Tectrade A/ S (acquired in 2002)		6
Other		1

		1,466


	Change in 2003
	from 2002

	(Euros in
	millions)
Divestitures
Haarmann & Reimer Group (divested in 2002)		(666	)
Dispositions in compliance with antitrust conditions by Bayer CropScience		(435	)
Household insecticides business		(272	)
PolymerLatex group		(117	)
Organic pigments		(54	)
Walothen GmbH		(10	)
Other		(7	)

		(1,561	)

Net effects on sales		(95	)


	*Reconciliation from operating result to operating result before special items*

In the consolidated operating results information we present below, we report, in addition to our operating result, a measure of operating result that excludes impairment charges and write-downs, restructuring charges and unscheduled amortization, portfolio changes and other charges that we view as special (consisting primarily of provisions established and other expenses incurred in connection with legal matters), all of which we refer to as “special items”. “Operating result before special items” is defined neither under IFRS nor under U.S. GAAP and may not be comparable with measures of the same or similar title that are reported by other companies. Under the rules of the Securities and Exchange Commission (SEC) “operating result before special items” is considered a non-GAAP financial measure. It should not be considered as a substitute for, or confused with, any IFRS or U.S. GAAP financial measure. We believe the most comparable IFRS and U.S. GAAP measure is operating result. We present “operating result before special items”, both on a consolidated and on a segment basis, because we believe that doing so assists readers in understanding the performance of our business without the large impacts on the operating result figures resulting from our decisions to reorient our business and from certain expenses (such as some of our impairments and provisions and expenses in respect of legal matters). Readers should consider “operating result before special items” in conjunction with operating result recorded on our income statement.

The following table shows our operating result, the special items and our operating result before special items.


		2002			2003			2004

		(Euros in millions)
Operating result			1,518			(1,119	)		1,808
Impairment charges and write-downs			(289	)		(1,927	)		(63	)
Restructuring charges and unscheduled amortization			(470	)		(508	)		(82	)
Portfolio changes			1,905			469			(111	)
Other charges			(364	)		(619	)		(180	)

	Total special items		782			(2,585	)		(436	)
Operating result before special items			736			1,466			2,244


	Impairment charges and write-downs

In 2004, we incurred impairment charges and write-downs totaling €63 million. The impairment charges comprised extraordinary amortization and depreciation of €68 million in our LANXESS segment, write-downs of €24 million in our plasma business as well as adjustments in connection with the 2003 impairments relating to our former polymers and chemicals activities. For a quantitative breakdown of the impairments by segment, please see Procedure used in global impairment testing and its impact in the Notes to the consolidated financial statements included in this annual report on Form 20-F.

In 2003, we recognized charges related to impairments and other asset write-downs of €1,927 million relating to portions of our former polymers and chemicals activities and our plasma business. In 2002, we recognized impairment charges totaling €289 million, which related to our polyols and fibers businesses.


	Restructuring charges and unscheduled amortization

In 2004, we incurred charges in connection with restructuring measures and unscheduled amortization totaling €82 million. The following table allocates the restructuring charges and unscheduled amortization of fixed assets and intangibles we recognized in 2004 according to the businesses and activities to which they relate:


		Severance		Unscheduled		Other
Activity/Business in 2004		Payments		Amortization		Charges		Total

		(Euros in millions)
Restructuring of the pharmaceutical research and development activities			24		0		0		24
Closure of major parts of a production facility in Hauxton, U.K.			5		7		1		13
Personnel reductions in connection with the Schering-Plough alliance			32		0		13		45

	Grand totals		61		7		14		82

The following table allocates the restructuring charges and unscheduled amortization of fixed assets and intangibles we recognized in 2003 according to the businesses and activities to which they relate:


		Severance		Unscheduled		Other
Activity/Business in 2003		Payments		Amortization		Charges		Total

		(Euros in millions)
Closure of research facilities in Kyoto, Japan and Berkeley, California			10		101		28		139
Continued integration of businesses acquired in 2002 from Aventis CropScience			100		2		0		102
Personnel adjustments in Polymers area			52		0		0		52
Plant closure in West Haven, Connecticut			8		21		3		32
Closure of the polyether production site at Institute, West Virginia			3		12		4		19
Further ongoing restructuring programs to improve profitability			9		9		46		64
Totals			182		145		81		408

Write-downs on enterprise management systems			0		100		0		100

	Grand totals		182		245		81		508

The following table allocates the restructuring charges and unscheduled amortization of fixed assets and intangibles we recognized in 2002 according to the businesses and activities to which they relate. Due to the reorganization of our businesses in 2003, we are unable to separate severance payments and other charges for 2002 without unreasonable effort.


				Severance
				Payments
				and
		Unscheduled		Other
Activity/Business in 2002		Amortization		Charges		Total

		(Euros in millions)
Integration of businesses acquired from Aventis CropScience			0		89		89
Restructuring of the rubber production site in Sarnia, Ontario, Canada			41		26		67
Closure of polymers production in Rieme, Belgium			31		7		38
Closure of production of iron oxide in New Martinsville, West Virginia			10		20		30
Closure of powder coatings production in Hicksville, New York			18		8		26
Restructuring measures in connection with sale of organic pigments facility in Bushy Park, South Carolina			23		0		23
Restructuring of the Consumer Care production in Elkhart, Indiana			8		12		20
Closure of production plant in Barcelona, Spain			2		17		19
Expenses in connection with cooperation arrangement with Aventis Behring			0		17		17
Reduction of headcount in Polymers area			0		10		10
Restructuring in New Martinsville, West Virginia			7		3		10
Further ongoing restructuring programs to improve profitability			14		9		23
	Totals		154		218		372

Write-downs on enterprise management systems			98		0		98

	Grand totals		252		218		470


	Portfolio changes

Acquisition and disposition activities also affect our results of operations, and are responsible for substantial swings in our results from year to year. In connection with our strategic reorientation and focus on our core businesses, we have been disposing of numerous businesses, investments and participations. Our most recent transactions are described in Item 4, History and Development of the Company. Our net loss from disposition activities, which we view as special, was €111 million in 2004, compared to net gains of €469 million in 2003 and €1,905 million in 2002.

The primary components of our net loss from dispositions in 2004 were €77 million in charges for the stock exchange listing of LANXESS, €71 million losses on the sale of the plasma business and a €39 million one-time gain from the sale of a license by Bayer HealthCare.

Our 2003 net gain from dispositions totaling €469 million comprised mainly the disposition of a large part of our global household insecticides business (€256 million), the disposition of real estate in Germany, Belgium, Spain and the United States (€120 million) and divestment of products in connection with the Aventis CropScience acquisition (€46 million). The remaining €47 million primarily comprised the sale of our interest in the PolymerLatex Group and the sales of rights to brands.

The primary components of our net gain of €1,905 million from dispositions in 2002 were the disposition of Haarmann & Reimer (€933 million), further sale of company housing units (€452 million), a large part of our global household insecticides business (€272 million), gains from the sale of products (€172 million) and from divestments of pharmaceutical operations (€75 million).


	Other charges

Other charges totaling €180 million in 2004, that we view as special, consisted primarily of provisions established and other expenses totaling €160 million incurred in connection with a number of the legal matters discussed in Item 8, Legal Proceedings, including €47 million in Lipobay/ Baycol charges. In addition, we allocated €40 million to environmental provisions. These charges were partially offset by gains from curtailment of pension plans amounting to €48 million. The primary components of the other charges totaling €619 million in 2003 included a €300 million charge taken on the basis of the final agreement reached with the majority of insurers in connection with Lipobay/ Baycol. The remaining €319 million comprised expenses for achieving staff reductions through special early retirement and expenses incurred in connection with legal matters in the rubber field as well as further Lipobay/ Baycol charges. Our 2002 charges of €364 million comprised mainly the settlement with U.S. federal authorities in the context of an investigation into pharmaceuticals product prices.

Bayer Group

The following table shows sales and income for Bayer as a whole.


					Change from						Change from
		2002			Previous Year			2003			Previous Year			2004

					(%)						(%)
		(Euros in millions)
Net sales from continuing operations			22,038			0.6			22,178			3.9			23,045
Net sales from discontinuing operations			7,586			(15.8	)		6,389			5.1			6,713
	Net sales		29,624			(3.6	)		28,567			4.2			29,758
Gross profit⁽¹⁾			11,909			(1.2	)		11,766			5.2			12,376
	as percentage of sales (%)		40.2			—			41.2			—			41.6
Selling expenses⁽¹⁾			(6,959	)		7.2			(6,460	)		4.7			(6,155	)
Research and development expenses⁽¹⁾			(2,588	)		7.1			(2,404	)		12.4			(2,107	)
General and administrative expenses ⁽¹⁾			(1,480	)		(13.0	)		(1,673	)		(2.5	)		(1,714	)
Other operating income			2,706			(57.2	)		1,158			(30.6	)		804
Other operating expenses			(2,070	)		(69.4	)		(3,506	)		60.2			(1,396	)
Operating result from continuing operations			781			(33.4	)		520			244.2			1,790
Operating result from discontinuing operations			737			—			(1,639	)		—			18
	Operating result⁽¹⁾		1,518			—			(1,119	)		—			1,808
	as percentage of sales (%)		5.1			—			(3.9	)		—			6.1
Non-operating result⁽¹⁾			(562	)		(55.7	)		(875	)		5.9			(823	)
Income before income taxes			956			—			(1,994	)		—			985
Net income			1,060			—			(1,361	)		—			603


⁽¹⁾	2002 and 2003 data have been restated for these items because of a change in the reporting of funded pension obligations. For more details, see Note 7 to the consolidated financial statements appearing elsewhere in this annual report on Form 20-F.

The following table shows a geographical breakdown of our sales based on where we sold our products.


			Change from					Change from
	2002		Previous Year			2003		Previous Year			2004

			(%)					(%)
	(Euros in millions)
Europe		12,266		(0.8	)		12,162		6.2			12,915
North America		9,005		(4.1	)		8,636		(4.2	)		8,277
Asia/ Pacific		4,901		(7.6	)		4,529		9.2			4,946
Latin America/ Africa/ Middle East		3,452		(6.1	)		3,240		11.7			3,620


	*2004 compared with 2003*


	Net Sales

Net sales represents the gross inflow of economic benefits from the sales of goods and services that we receive or that are receivable by us. Net sales excludes rebates and discounts that we give our customers, as well as the amounts that we collect on behalf of third parties, such as sales taxes, goods and services taxes and value added taxes. Net sales from continuing operations increased by €867 million, or 3.9 percent, to €23,045 million in 2004, compared with €22,178 million in 2003. Total net sales increased by €1,191 million, or 4.2 percent. Had the average exchange rates we used to translate our non-euro denominated revenues into euros stayed constant in 2004 as compared with 2003 rather than declining as they in fact did, our net sales would have increased, primarily due to a volume increase, by €2,351 million, or 8.2 percent. This was in part offset by €1,159 million less in net sales caused by currency effects. In comparison with 2003, price increases of an average of 1.2 percent led to €333 million of increased net sales. Changes in our portfolio of businesses accounted for a €224 million reduction in our net sales.


	Gross Profit

Gross profit represents net sales after cost of goods sold and services provided. Cost of goods sold and services provided include the production costs of goods sold and the cost of goods purchased for resale.

The cost of goods sold and services provided increased by €581 million, or 3.5 percent, to €17,382 million in 2004, due mainly to the overall growth in our business, in particular in our MaterialScience business. Had the average exchange rates we used to translate our non-euro denominated costs into euros stayed constant in 2004, the increase would have been 7.6 percent.


	Operating Result

Operating result represents gross profit after selling expenses, research and development expenses, general administration expenses and other operating income and expenses. We distinguish between our result from continuing and discontinuing operations.

Selling expenses declined by €305 million, or 4.7 percent, to €6,155 million, largely due to currency effects.

Research and development expenses declined by €297 million, or 12.4 percent, to €2,107 million, mainly because of our concentration on our strategic core businesses and also due to currency effects. For details on our research and development activities, see Item 4 — Business — Pharmaceuticals, Biological Products — Research and Development.

General administration expenses increased by €41 million, or 2.5 percent, to €1,714 million, primarily because of an organization-related reclassification of certain expenses, charges related to the LANXESS spin-off and the integration of the OTC business acquired from Roche. The reclassification resulted from a change in reporting necessitated by organizational changes. Certain functions, for which expenses had previously been allocated among various function costs, were centralized. These expenses are now reported under administrative expenses, thereby increasing administrative expenses and reducing the amounts of the other function costs — especially cost of goods sold and selling expenses. These expenses were partially offset by currency effects.

Other operating income decreased by €354 million, or 30.6 percent, to €804 million, mainly due to a €256 million gain in 2003 from the sale of our household insecticides business, compared to a €121 million net gain in 2004 from a reduction in obligations to pay supplementary medical expenses for retirees in the United States. Additionally, we had €48 million in gains resulting from pension curtailments, which we consider special items.

Other operating expenses decreased by €2,110 million, or 60.2 percent, to €1,396 million, primarily because the 2003 amount contained impairment charges and other write-downs of €1,927 million. Other operating expenses in 2004 included charges related to the divestiture of the plasma business and litigation-related expenses.

Operating result improved to a profit of €1,808 million, with special items having a €436 million net negative effect. For a breakdown of these special items, see — Overview — Introduction — Reconciliation from operating result to operating result before special items. Operating result before special items climbed by 53.1 percent to €2,244 million. Operating result from continuing operations was 244.2 percent above 2003’s level, which was largely due to the high level of impairments influencing operating result from continuing operations in 2003.


	Non-Operating Result

The non-operating result improved by €52 million, or 5.9 percent, to an expense of €823 million, largely because of a decrease in net interest expense mainly due to reduced net debt and lower interest rates, as well as lower write-downs of investments in subsidiaries. For a definition of our “net debt” measure, see — Liquidity and Capital Resources 2002, 2003 and 2004 — Cash Flows — Financing Activities.


	Income Before Income Taxes

In 2004, we had a positive income before income taxes of €985 million, as compared with a loss before income taxes of €1,994 million in 2003.


	Income Taxes

We recognized an income tax charge of €385 million in 2004, as compared with a benefit of €645 million in 2003. The tax rate for our Group was 39 percent. The tax result was composed of income taxes paid or payable of €529 million, partly offset by deferred tax changes that led to a net credit of €144 million.


	Net Income

Group income rose by €1,964 million to €603 million from a net loss of €1,361 million in 2003.


	*2003 compared with 2002*


	Net Sales

Net sales of the Bayer Group declined by 3.6 percent, or €1,057 million, from 2002 to €28,567 million in 2003. Net sales from continuing operations remained essentially flat, while the difficult economic and industry conditions contributed to a 15.8 percent decline in net sales of discontinuing operations. Applying 2002 exchange rates, total net sales increased, however. Had the average exchange rates we used to translate our non-euro denominated revenues into euros stayed constant in 2003 as compared with 2002 rather than declining as they in fact did, our net sales would have increased, primarily due to volume increase, by €1,433 million, or 4.8 percent; this was more than offset by the €2,545 million less in net sales caused by currency effects. Prices were on average fairly flat in 2003; in comparison with 2002, price increases led only to €150 million of increased net sales, an increase of 0.5 percent. Changes in our portfolio of businesses accounted for a €95 million reduction in our net sales.


	Gross Profit

The cost of goods sold and services provided decreased by 5.2 percent in 2003 to €16,801 million, due mainly to currency effects, as our non-euro denominated costs were also reduced by the strong euro. Other cost-reducing factors, apart from portfolio effects, were improved manufacturing efficiencies in HealthCare and plant closures in MaterialScience.


	Operating Result

Selling expenses diminished by 7.2 percent to €6,460 million due to currency and portfolio effects.

The 13.0 percent increase in general administration expenses, to €1,673 million, was largely related to the Aventis CropScience acquisition.

Other operating income amounted to €1,158 million. This figure includes the gain from the sale of the remaining part of the household insecticides business (€256 million), the PolymerLatex group (€28 million) and real estate in Germany, Belgium and Spain (€106 million). The previous year’s figure contained the gain from the sale of the Haarmann & Reimer group (€933 million), company housing units (€452 million), a large part of the household insecticides business (€272 million) and generics activities (€75 million).

Other operating expenses increased to €3,506 million, including impairment charges and other write-downs of €1,927 million. The impairments resulted mainly from a global review of asset values according to IAS 36 in connection with the planned strategic realignment of the Bayer Group and the sustained adverse conditions affecting our industrial business. Other operating expenses also included the €300 million we charged to income as a result of the settlement we reached with a majority of our insurers in connection with Lipobay/Baycol. (See Item 8, Financial Information — Legal Proceedings.)

Operating result declined to a loss of €1,119 million, with special items — mainly impairment charges, restructuring expenses and items related to portfolio changes — having a €2,585 million net negative effect. For a breakdown of these special items, see — Overview — Introduction — Reconciliation from operating result to operating result before special items. Operating result before special items, however, climbed by 99.2 percent to €1,466 million. Operating result from continuing operations was 33.4 percent below 2002’s level.


	Non-Operating Result

The non-operating result declined to an expense of €875 million, due particularly to a drop in the net result of investments in affiliated companies to an expense of €93 million. This decrease was attributable to write-downs of our investments in DyStar and Curagen and a net loss position for companies included at equity. The principal item of non-operating income was the €190 million tax-free gain from the sale of our equity interest in Millennium Pharmaceuticals.


	Income (Loss) Before Income Taxes

We incurred a loss before income taxes of €1,994 million in 2003, as compared with income before income taxes of €956 million in 2002.


	Income Taxes

We recognized an income tax benefit of €645 million in 2003, as compared with a benefit of €107 million in 2002. The tax rate for our Group was 32 percent. The tax result was composed of income taxes paid or payable of €607 million, offset by deferred tax changes that led to a net credit of €1,252 million.


	Net Loss

The Group recorded a €1,361 million net loss.

Segment Data

We use operating result before special items as an internal reporting measure for our segments in order to promote comparability from period to period. The special items we report include primarily expenses relating to impairment charges, accelerated depreciation, restructuring measures charged to operating result, costs of facilities closures and income from divestments. On a consolidated basis, operating result before special items is considered a non-GAAP financial measure under applicable rules of the Securities and Exchange Commission. See — Overview — Introduction — Reconciliation from operating result to operating result before special items.


	*Pharmaceuticals, Biological Products*


					Change from						Change from
		2002			Previous Year			2003			Previous Year			2004

					(%)						(%)
		(Euros in millions)
Net sales (external), continuing operations			4,088			1.1			4,132			(9.8	)		3,728
Net sales (external), discontinuing operations			679			(9.7	)		613			7.7			660

	Total net sales (external)		4,767			(0.5	)		4,745			(7.5	)		4,388
Intersegment sales			33			54.5			51			(17.6	)		42
Operating result from continuing operations			(87	)		32.2			(59	)		—			358
Operating result from discontinuing operations			(113	)		(208.8	)		(349	)		84.0			(56	)

	Total operating result		(200	)		(104.0	)		(408	)		—			302
Special items			(333	)		(149.8	)		(832	)		82.2			(148	)

Operating result before special items			133			218.8			424			6.1			450

The primary special items were as follows:


Year		Nature of Special Item	Income/Charge

			(Euros in
			millions)
	2002	Legal provisions for settlement with U.S. authorities in the context of an investigation into pharmaceuticals product prices		(272	)
		Restructuring and write-downs		(58	)
	2003	Charges taken on the basis of the final agreement reached with the majority of insurers in connection with Lipobay/ Baycol		(300	)
		Impairments and write-downs of plasma business		(317	)
		Closure of research and production facilities		(171	)
	2004	Losses in connection with the divestment of the plasma business		(71	)
		Write-downs in connection with the divestment of the plasma business		(24	)
		Charges in connection with restructuring pharmaceuticals research and development		(24	)
		Gain on a sale of a license		39
		Charges in connection with Lipobay/ Baycol		(47	)
		Restructuring charges in connection with the Schering-Plough alliance		(45	)
		Pension curtailment in connection with the Schering-Plough alliance		24


	2004 compared with 2003

Sales of our Pharmaceuticals, Biological Products segment declined by €357 million, or 7.5 percent, to €4,388 million. Had the average exchange rates we used to translate our non-euro denominated revenues into

euros stayed constant in 2004 as compared with 2003, our net sales in this segment would have decreased by €161 million or 3.4 percent in 2004.

Sales of the Pharmaceuticals division declined by €469 million, or 12.9 percent, to €3,166 million. This was mostly due to the expiration of our U.S. patent for the anti-infective Cipro®. Total sales of Ciprobay®/Cipro® (active ingredient: ciprofloxacin) fell by €574 million, or 40.7 percent, year on year. Based on data published by International Medical Statistics (IMS), our once-daily formulation Cipro® XR had gained a 14 percent share of ciprofloxacin prescriptions in the United States by year end. As part of the realignment of our pharmaceuticals business, we signed an extensive cooperation agreement in September 2004 under which Schering-Plough now markets selected primary care products in the United States in return for sales-dependent license payments or, in the case of Levitra®, in return for a share of the earnings realized. Those license payments together with our share of the earnings now represent the bulk of our sales in the United States. As license payments are only a share of sales to market, our sales declined compared to 2003.

Sales of our erectile dysfunction treatment Levitra® rose by €49 million, or 34.0 percent, to €193 million; a smaller increase than we had anticipated. Using 2003 exchange rates, sales rose by 40.3 percent in 2004. Levitra® has now been registered in all the major countries. By year end the product had gained a roughly 11 percent global market share and a 10 percent share in the United States, the most important market, based on data published by IMS. We were engaged in a dispute with Pfizer, Inc., in which Pfizer claims that the sale of Levitra® infringes upon Pfizer’s U.S. patent relating to products for the treatment of erectile dysfunction. See Item 8, Financial Information — Legal Proceedings — Patent validity challenges and infringement proceedings; patent-related antitrust actions — Vardenafil-related actions.

Sales of our respiratory antibiotic Avalox®/Avelox® continued to advance in a highly competitive environment, increasing by 6.4 percent to €318 million, with sales increasing by 12.4 percent when using 2003 exchange rates. Despite keen competition from generics, sales of our antihypertensive drug Adalat® remained steady year on year. Further growth was achieved by Aspirin® Cardio (heart attack and stroke prophylaxis), Trasylol® (used in open-heart surgery) and Glucobay® (diabetes).

Sales of the Biological Products division rose by 10.1 percent to €1,222 million, with sales growing by 15.5 percent when using 2003 exchange rates. Both our hemophilia drug Kogenate® and the plasma products contributed to this positive performance. Plasma products, part of our discontinuing operations, accounted for 53.2 percent of this increase. Kogenate® sales grew primarily in Europe, with a considerable increase in volumes. The plasma business developed very well in North America due to new product launches (Gamunex®), but receded in Japan due to fierce competition and regulatory changes.

Operating result of the Pharmaceuticals, Biological Products segment improved from minus €408 million to €302 million. Operating result before special items rose by 6.1 percent to €450 million. The decline in operating result of the Pharmaceuticals division due to the expiration of our U.S. patent for Cipro® was more than offset by the higher sales of the Biological Products division and further cost savings.

Special items in 2004 amounted to minus €148 million on aggregate, including a €71 million loss on the sale of the plasma business, further charges of €47 million for Lipobay/ Baycol, personnel reductions in connection with the Schering-Plough alliance of €45 million, restructuring charges of €24 million in connection with the realignment of our pharmaceutical research and a €39 million gain from the sale of a license. Gains from the curtailment of pension plans and write-downs in connection with the divestment of the plasma business (each of which amounted to €24 million) offset each other. Special items in the previous year mainly comprised expenses relating to the plasma business and for accounting measures concerning Lipobay/ Baycol.


	2003 compared with 2002

Sales of the Pharmaceuticals, Biological Products segment, at €4,745 million in 2003, almost matched the €4,767 million in sales of the previous year. Had the average exchange rates we used to translate our non-euro denominated revenues into euros stayed constant in 2003 as compared with 2002 rather than declining as they in fact did, our net sales in the Pharmaceuticals, Biological Products segment would have been €542 million higher, and would have risen by 11.4 percent in comparison with 2002.

Sales growth in the Pharmaceuticals division was to a large extent driven by the successful introduction of the erectile dysfunction drug Levitra®. Levitra® accounted for €144 million of net sales in 2003, its first year on the market. Sales of the respiratory antibiotic Avalox®/ Avelox® continued to expand in a highly competitive environment, with sales of this product rising by 6.8 percent to €299 million. Had the average exchange rates we used to translate our non-euro denominated revenues into euros stayed constant in 2003 as compared with 2002, sales of this product would have shown a 20.4 percent increase. The increased net sales attributable to Levitra® and Avalox®/ Avelox® were offset in part by a decline in sales of the antihypertensive drug Adalat®, which fell by 15.5 percent to €676 million due to increased competition from producers of generic substitutes, particularly in the United States. Had the average exchange rates we used to translate our non-euro denominated revenues into euros stayed constant in 2003 as compared with 2002, Adalat sales would have declined by 7.6 percent. Sales of our anti-infective Ciprobay®/ Cipro® remained constant at the high level of €1,411 million, with sales rising by 14.2 percent when using 2002 exchange rates.

Due to substantially increased releases of product and volumes sold, our sales of Kogenate®, our recombinant Factor VIII clotting factor, expanded by 24.3 percent in 2003, or €97 million, to €497 million. Had exchange rates stayed constant, our sales of Kogenate® would have risen by 33.4 percent, partly, we believe, as a result of increases in market share, particularly in the United States and Japan.

Operating result fell by €208 million, or 104.0 percent, to minus €408 million. Operating result before special items for the segment grew by €291 million, or 218.8 percent, in 2003, to €424 million, due mainly to the upward trend in the Pharmaceuticals division and the Kogenate® business of the Biological Products division. In Pharmaceuticals, the improvement was also aided by cost reductions achieved through closures and relocations of production facilities and the consolidation of research activities. Additional contributing factors in the Biological Products division were increases in the efficiency of some of our production processes and improved cost structures for Kogenate®.

Special items in 2003 comprised primarily impairments of the plasma business of our Biological Products division in the amount of €317 million and charges in respect of the closure of our research centers in Kyoto, Japan, the termination of research activities in Berkeley, California and of a production facility in West Haven, Connecticut in the total amount of €171 million. We charged €300 million in respect of the agreement reached with a majority of our insurers in connection with Lipobay/ Baycol. See Item 8, Financial Information — Legal Proceedings. Special items in 2002 primarily included legal provisions of €272 million and restructuring charges and write-downs of €58 million.


	*Consumer Care, Diagnostics*


			Change from					Change from
	2002		Previous Year			2003		Previous Year			2004

			(%)					(%)
	(Euros in millions)
Net sales (external)		3,755		(11.2	)		3,336		(0.7	)		3,311
Intersegment sales		2		100.0			4		350.0			18
Operating result		593		1.3			601		(33.4	)		400
Special items		214		25.2			268		—			(30	)
Operating result before special items		379		(12.1	)		333		29.1			430

The primary special items were as follows:


Year		Nature of Special Item	Income/Charge

			(Euros in
			millions)
	2002	Divestment of household insecticides business		272
		Closure of production facility and restructuring charges		(44	)
	2003	Divestment of household insecticides business		256
	2004	Provision for litigation		(16	)
		Expenses relating to the integration of the Roche OTC business		(14	)


	2004 compared with 2003

Sales in the Consumer Care, Diagnostics segment declined by €25 million, or 0.7 percent, to €3,311 million. Had we translated our non-euro denominated revenues in 2004 at 2003’s average exchange rates, net sales would have increased by €153 million or 4.6 percent in 2004.

Sales of the Consumer Care division fell by 4.8 percent to €1,336 million, but increased by 1.4 percent when applying 2003 exchange rates. Business in Europe, particularly Italy, Germany and the United Kingdom, continued to expand thanks to the launch of new products such as Aspirin® Complex. In Latin America, Aspirin® sales were encouraging. By contrast, our OTC business in North America was level with the previous year.

Sales of blood glucose monitoring systems offered by our Diabetes Care division grew by 4.5 percent to €653 million, with sales rising by 9.5 percent when using 2003 exchange rates. Particularly successful were the Ascensia® Breeze and Ascensia® Contour/ Microfill test systems launched in 2003. We achieved double-digit growth rates in important markets such as the United States, Germany, Spain and the United Kingdom.

The Diagnostics division grew sales by 1.1 percent to €1,322 million, and by 5.7 percent when applying 2003 exchange rates, with all business units and all regions contributing to the increase. We posted double-digit growth rates in some countries, particularly in Latin America and Asia-Pacific. Complementing the existing product line was the new ADVIA® 1200 system.

Operating result of the Consumer Care, Diagnostics segment dropped by €201 million to €400 million. Before special items, however — mainly litigation-related charges amounting to €16 million and expenses for the integration of the Roche OTC business amounting to €14 million — operating result for the segment increased considerably to €430 million (plus 29.1 percent). The principal special item in 2003 was the income from the sale of the household insecticides business. This earnings growth was due particularly to the sales increases in the Diabetes Care and Diagnostics divisions and to cost savings.


	2003 compared with 2002

Sales of the Consumer Care, Diagnostics segment declined by €419 million, or 11.2 percent, to €3,336 million. Sales of the Consumer Care division declined by 18.2 percent, or €313 million, to €1,403 million, mainly due to the divestment of the household insecticides business and the strength of the euro. Of this change, €272 million related to the divestment of the household insecticides business, the net sales of which were €345 million in 2002 and €73 million in 2003 (up to the effective date of the divestment). The rise of the euro against non-euro currencies led to a decline of €100 million in net sales. Excluding the net sales relating to this divested business in both years, and had we translated our non-euro denominated net sales at the average exchange rates applicable in 2002 rather than those applicable in 2003, net sales would have increased by 5.8 percent. This business thus expanded much faster than the market, which, according to our internal estimate based on regional Information Resources Inc. (IRI) and IMS data, grew by 3 percent. In the United States our One-A-Day® Weight Smart vitamin product posted sales of €60 million in its first year on the market. Applying 2002 exchange rates, in the United States, sales of our analgesic Aleve® advanced by 18.8 percent (but fell 0.7 percent on an unadjusted basis).

Sales of the Diagnostics division were down by 0.2 percent, or €2 million, to €1,308 million. Adjusting for the €143 million decline in Diagnostics net sales attributable to the above mentioned changes in exchange rates, net sales of the Diagnostics division would have increased 10.9 percent. ADVIA® Centaur experienced a 24.4 percent sales increase and a 13.8 percent increase, to €387 million, on an unadjusted basis. Sales of the Diabetes Care division were down by 14.3 percent, or €104 million, to €625 million, due to negative currency effects and heightened competitive pressure, with the United States and Europe accounting for most of the decline. Adjusting for the €39 million decline in Diabetes Care net sales attributable to the above mentioned changes in exchange rates, net sales of the Diabetes Care division would have decreased 5.3 percent.

Operating result for the Consumer Care, Diagnostics segment increased by 1.3 percent to €601 million, marred by the lower sales in Diabetes Care and adverse currency effects. We successfully completed the divestment of the household insecticides business, initiated in 2002, to U.S.-based SC Johnson & Son, Inc. Of the total gain of €528 million on this sale, we realized €256 million in 2003.

The special items in both 2003 and 2002 related mostly to gains on our sale of the household insecticide business (amounting to €256 million in 2003 and €272 million in 2002).


	*Animal Health*


				Change from					Change from
	2002			Previous Year			2003		Previous Year			2004

				(%)					(%)
	(Euros in millions)
Net sales (external)		850			(7.1	)		790		(0.5	)		786
Intersegment sales		1			700.0			8		(50.0	)		4
Operating result		168			2.4			172		(8.7	)		157
Special items⁽¹⁾		(11	)		—			22		—			0
Operating result before special items		179			(16.2	)		150		4.7			157


⁽¹⁾	Special items were accounted for primarily by gains from the disposal of the rights to the Bayovac®/ Baypamun® products in 2003 and charges in 2002 for a writedown on an enterprise management system.


	2004 compared with 2003

Sales of the Animal Health segment declined by €4 million, or 0.5 percent, to €786 million. Had we translated our non-euro denominated revenues in 2004 at 2003’s average exchange rates, we would have had €40 million more net sales in 2004 than reported. All regions contributed to this growth. Notable success was achieved with the launch of our antiparasitic Advantix® in Italy and with the development of our Advantage® and Baytril® businesses in the United States.

Operating result of the Animal Health segment fell by €15 million, or 8.7 percent, to €157 million. Adjusted for the previous year’s one-time gain from the sale of product rights, operating result before special items grew by 4.6 percent in 2004.


	2003 compared with 2002

Sales of the Animal Health segment fell by 7.1 percent, or €60 million, to €790 million, due primarily to negative currency effects. Had exchange rates not changed as they did and our non-euro denominated net sales had been translated into euro at the same exchange rates as in 2002, our net sales would have been €40 million higher than as reported, and sales would have risen by 4.7 percent. Our positive performance on the basis of 2002 exchange rates resulted primarily from the successful launch in North America of the new antiparasitic treatment Advantix®. Sales in Europe remained at the previous year’s level. We experience declines in net sales in our other regions primarily due to the negative currency movements.

As part of our ongoing portfolio adjustments, the rights to the Bayovac®/Baypamun® products were sold to Pfizer Animal Health in December 2003.

Operating result of the Animal Health segment increased by €4 million, or 2.4 percent, to €172 million. Operating result before special items fell by €29 million as a result of exchange rate developments, where the negative impact on sales outweighed the positive impact of translating non-euro denominated costs into euro, as well as due to expenses for the Advantix® and other new product introductions. Special items amounted to a gain of €22 million in 2003 and to a charge of €11 million in 2002.


	*CropScience*


				Change from						Change from
	2002			Previous Year			2003			Previous Year			2004

				(%)						(%)
	(Euros in millions)
Net sales (external)		4,697			22.7			5,764			3.2			5,946
Intersegment sales		90			(23.3	)		69			(17.4	)		57
Operating result		(112	)		—			342			43.9			492
Special items		67			—			(81	)		63.0			(30	)
Operating result before special items		(179	)		—			423			23.4			522

The primary special items were as follows:


Year		Nature of Special Item	Income/Charge

			(Euros in
			millions)
	2002	Restructuring related to the Aventis CropScience acquisition		(89	)
		Gains on divestments relating to the Aventis CropScience acquisition		172
	2003	Restructuring related to the Aventis CropScience acquisition		(102	)
		Gains on sale of the prior Bayer CropScience products		46
	2004	Closure of major parts of a production facility in Hauxton, U.K.		(13	)


	2004 compared with 2003

Sales of the CropScience segment grew by 3.2 percent, or €182 million, from €5,764 million in 2003 to €5,946 million in 2004. Exchange rates had an offsetting negative effect. Had we translated our non-euro denominated revenues in 2004 at 2003’s average exchange rates, we would have had €227 million more net sales in 2004 than reported.

Sales of the Crop Protection business group increased by 3.2 percent year on year to €4,957 million. Our Confidor®/Gaucho®/Admire®/Merit® product group achieved sales of €603 million due mainly to increased use in cotton, vegetables and soybeans in the United States and Brazil. Envidor®, which we introduced in 2003 for use in perennial crops, continued to perform very well in its second year on the market. Sales of the Fungicides business unit increased by €109 million, or 9.3 percent, to €1,277 million, thanks largely to strong volume increases for our top fungicides Folicur® and Flint®. The growth in sales, particularly in the first and fourth quarters, resulted mainly from the efforts to combat against Asian rust in Brazil. Sales of our broad-spectrum fungicide Folicur® climbed again, in 2004 by 30.5 percent to €411 million, mainly on account of its increasing use to control the cereal disease fusarium. Business with Flint® grew by 20.0 percent to €240 million, although market conditions in Western Europe remained difficult. Sales of our Sphere® and Stratego® formulations for soybeans rose strongly in Brazil and Argentina. We also increased sales in many other countries and with respect to other crops, scoring major success with the launch of our new Proline® range of cereal fungicides in Germany. Sales in the Herbicides unit edged up by 0.4 percent to €1,855 million despite a difficult market environment. Sales of Basta®/Liberty® improved by 23.9 percent to €197 million. Our recently launched product Atlantis® had a successful year thanks to its high efficacy against grass weeds in cereal crops. The 9.3 percent growth in sales of seed treatment products was attributable not only to the acquisition of Crompton Corporation’s 50 percent interest in Gustafson, but also to a substantial increase in sales of our successful new seed treatment Poncho®.

Sales of the Environmental Science business group receded by 2.0 percent to €678 million; however, when applying 2003 exchange rates, sales increased by 3.2 percent.

In the BioScience business group, sales climbed by 14.8 percent year on year to €311 million. The main contributors to this increase were InVigor® (canola seed) and FiberMax® (cotton seed), both with sales growth exceeding 50 percent. Sales in vegetable seeds were also well above levels of the previous year.

Despite negative currency effects, operating result of the CropScience segment improved by 43.9 percent from €342 million to €492 million. This earnings performance was attributable both to business expansion and to

strict cost management. Special items with a total of €30 million, mainly including expenses related to a partial closure of a production facility and litigation, were significantly lower than in the previous year. Operating result before special items improved by €99 million, or 23.4 percent, to €522 million.


	2003 compared with 2002

Sales of the CropScience subgroup climbed by 22.7 percent to €5,764 million largely because of the Aventis CropScience acquisition. Exchange rates had an offsetting negative effect. Had we translated our non-euro denominated revenues in 2003 at 2002’s average exchange rates, we would have had €605 million more net sales in 2003 than reported. Adjusted for the Aventis CropScience acquisition and currency effects, our net sales would have grown by 11.8 percent.

Sales of the Crop Protection business group rose by 20.0 percent to €4,801 million. This increase was mainly due to acquisitions and a significant increase in sales of our top products. Sales of our Confidor®/Gaucho®/Admire®/Merit® insecticide/seed treatment/environmental science products grew by 5.2 percent to €590 million, with the largest increases being recorded in Germany, France and Brazil. Net sales of our Folicur®/Raxil® fungicides/seed treatment products also increased considerably, advancing by 21.2 percent to €315 million, mainly due to higher volumes in the United States and Brazil. Sales of Folicur®/Raxil® more than doubled in each of these countries. Our Flint® fungicide also fulfilled our growth expectations, with sales gaining 25.8 percent to €200 million. In light of this product’s effectiveness against the Asian rust fungus, there was particularly high demand in Brazil for its new formulations, Stratego® for soybeans and Sphere® for coffee crops.

Sales of the products acquired with the Aventis CropScience transaction, notably Puma® and Basta®, also developed well.

Envidor®, our new broad-spectrum acaricide for use in perennial crops, was successfully launched in Japan and Brazil in 2003. The new seed treatment Poncho® had a good start following its registration in the United States, already accounting for a significant share of sales of the Seed Treatment unit (4.6 percent) in its first year on the market.

Net sales of the Environmental Science business group improved by 14.4 percent to €692 million. This was mainly due to the products Merit®, MaxForce®, Premise®, Deltagard® and K-Othrine®, as well as to the performance of the Bayer Advanced®/Bayer Garden® line.

The BioScience business group’s net sales increased to €271 million. Sales of our vegetable seeds developed favorably, as did our cotton and canola seed products in the United States and Canada. FiberMax® and InVigor® achieved particularly large sales increases.

In 2003, the integration of Aventis CropScience was largely complete. With the exception of the active substance propoxycarbazone, all of the individual products mandated to be divested by the antitrust authorities had been divested.

Our operating result in CropScience reversed from a loss of €112 million to a positive €342 million despite negative currency effects, the growth in earnings being mainly due to higher sales. While special items in 2002 comprised mainly the proceeds of individual product divestments amounting to €172 million, in 2003 they included primarily restructuring charges amounting to €102 million and relating to the integration of the Aventis CropScience business. Operating result before special items improved by €602 million to €423 million.


	*Materials*


				Change from						Change from
	2002			Previous Year			2003			Previous Year		2004

				(%)						(%)
	(Euros in millions)
Net sales (external)		2,875			(3.4	)		2,777			17.0		3,248
Intersegment sales		24			(4.2	)		23			17.4		27
Operating result		174			(66.7	)		58			405.2		293
Special items		(2	)		(1,350.0	)		(29	)		—		0

Operating result before special items		176			(50.6	)		87			236.8		293

The primary special items were as follows:


Year		Nature of Special Item	Income/Charge

			(Euros in
			millions)
	2003	Restructuring charges in connection with headcount reductions		(16	)
		Expenses for achieving staff reductions through special early retirement		(9	)


	2004 compared with 2003

Sales in the Materials segment were well ahead of the previous year, rising by €471 million, or 17.0 percent, to €3,248 million in 2004. We have restated financial data for our current Materials segment for past periods to segregate the LANXESS businesses from our continuing operations. Had we translated our non-euro denominated revenues in 2004 at 2003’s average exchange rates, we would have had €143 million more net sales in 2004 than reported. The business unit Polycarbonates and H.C. Starck were instrumental to this favorable performance, with high demand from the plastics and electronics industries allowing both units to achieve price and volume increases. Sales of the Polycarbonates business unit grew by 31.4 percent in Asia-Pacific due to heavy demand, particularly in China. Sales of H.C. Starck rose significantly, especially in Europe, by 24.6 percent.

Operating result of the Materials segment increased from €58 million to €293 million in 2004. If special items totaling €29 million are eliminated from the previous year’s figure, operating result would have increased by €206 million, chiefly on account of growth in demand and the resulting improvements in capacity utilization and also because we were able to pass on to our customers a large part of the substantially increased raw material costs from the third quarter onward.


	2003 compared with 2002

Sales of Materials segment fell by 3.4 percent in 2003 to €2,777 million from €2,875 million in 2002. The decline in the segment’s sales was mainly a result of increased pressure on prices and adverse currency effects. Sales of Polycarbonates decreased by 1.7 percent to €1,713 million, mainly because of increased pressure on prices and adverse currency effects. Applying 2002 exchange rates, Polycarbonates increased by 8.1 percent from the previous year. Sales of Wolff Walsrode decreased by 6.4 percent to €323 million. Business at H.C. Starck, also hampered by exchange rates, receded by 7.1 percent to €564 million. Applying 2002 exchange rates as set forth above, however, H.C. Starck’s sales would have increased by 1.1 percent from the previous year.

Operating result for the Materials segment dropped to €58 million in 2003 following €29 million in special items, primarily restructuring expenses in connection with headcount reductions. Operating result before special items decreased to €87 million. This was attributable mainly to declining selling prices and higher raw material and energy costs.


	*Systems*

Change from

2002

Previous Year

2003

Previous Year

2004