SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 20-F

o REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g)

OF THE SECURITIES EXCHANGE ACT OF 1934

OR

x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2005

OR

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

OR

o SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from            to           

Commission file number:

ALTANA Aktiengesellschaft

(Exact Name of Registrant as Specified in Its Charter)

Federal Republic of Germany

(Jurisdiction of Incorporation or Organization)

Am Pilgerrain 15

D-61352 Bad Homburg v. d. Höhe

Federal Republic of Germany

(Address of Principal Executive Offices)

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

Securities registered or to be registered pursuant to Section 12(g) of the Act: None

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act: None

      The number of issued and outstanding shares of each of the issuer’s classes of capital or common stock as of December 31, 2005 was 135,760,592 no par value.

      Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Yes x      No o

      If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

Yes o      No x

      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 x      No o

      Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one).

Large Accelerated Filer x      Accelerated Filer o      Non-Accelerated Filer o

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

Item 17 o      Item 18 x

TABLE OF CONTENTS:

FORWARD-LOOKING STATEMENTS

      This annual report contains certain forward-looking statements, i.e., current expectations or estimates of future events or future results. When used in this document, the words “anticipate”, “believe”, “estimate”, “expect”, “intend”, “plan” and “project”, and similar expressions, as they relate to us or our management, identify forward-looking statements. These statements are based on beliefs of our management as well as assumptions made by and information currently available to us. Such statements reflect our current views with respect to future events and are subject to various risks, uncertainties and assumptions. Many factors could cause our actual results, performance or achievements to be materially different from those which may be expressed or implied by such forward-looking statements. The accompanying information contained in this annual report, including the information under “Item 3: Key Information — Risk Factors”, “Item 4: Information on the Company” and “Item 5: Operating and Financial Review and Prospects” identifies important factors that could cause such differences. These factors include our ability to develop, obtain regulatory approval for and launch new and innovative pharmaceutical and chemical products, price regulations for pharmaceuticals and budgeting decisions of local governments and health care providers, the level of our investment in pharmaceuticals-related R&D in any given period, the sales and marketing methods that we use to distribute our pharmaceuticals, the composition of our pharmaceuticals portfolio, our ability to maintain close ties with our chemicals customers, the business cycles experienced by our chemicals customers and the prices of the raw materials that we use in our chemicals business. Forward-looking statements speak only as of the date they are made. We do not intend, and do not assume any obligation, to update forward-looking statements to reflect facts, circumstances or events that have occurred or changed after such statements have been made.

PART I

ITEM 1: IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS

      Not applicable.

ITEM 2: OFFER STATISTICS AND EXPECTED TIMETABLE

      Not applicable.

ITEM 3: KEY INFORMATION

Selected Consolidated Financial Data

      The selected consolidated financial data as of and for the years ended December 31, 2001, 2002, 2003, 2004 and 2005 set forth below are derived from our consolidated financial statements.

      We prepare our consolidated financial statements in accordance with International Financial Reporting Standards (IFRS). IFRS differ in certain significant respects from U.S. Generally Accepted Accounting Principles (U.S. GAAP). For a description of the significant differences between IFRS and U.S. GAAP and a reconciliation of net income and shareholders’ equity to U.S. GAAP, see Notes 32 and 33 to our consolidated financial statements.

      You should read the information below in conjunction with our consolidated financial statements and the other financial information that we have included elsewhere in this annual report. For our consolidated financial statements as of and for each of the three years ended December 31, 2005, see the discussion beginning on page F-1.

Selected Consolidated Financial Data as of and for the Five Years Ended December 31, 2005

      The following table presents selected consolidated financial information as of and for the five years ended December 31, 2005:

Dividends

      The following table sets forth the dividends per share paid in respect of each of the five years in the period ended December 31, 2005 in euro and U.S. dollars. We declare dividends in euro. For purposes of the table below, we have converted the amounts paid as dividends into U.S. dollars using the noon buying rate on the date of the shareholders’ meeting at which the relevant dividends were approved. The table does not reflect the related tax credits that were available to German taxpayers in respect of dividend payments prior to 2002. Owners of our shares who are U.S. residents should be aware that they will be subject to German withholding tax on any dividends that they receive. See “Item 10: Additional Information — Taxation”.

      Both net income distributable as dividends and net income subject to German tax are determined on the basis of the stand-alone unconsolidated financial statements of our holding company, ALTANA Aktiengesellschaft, prepared in accordance with German GAAP. German GAAP differ in a number of important respects from both IFRS and U.S. GAAP. In 2005, our holding company’s net income calculated on an unconsolidated basis in accordance with German GAAP was € 217 million, compared with € 164 million in 2004 and €  276 million in 2003.

Exchange Rate Information

      We publish our consolidated financial statements in euro. As used in this annual report, “euro”, “EUR” or “€ ” means the single unified currency of the European Monetary Union. “U.S. dollar”, “USD”, “U.S.$” or “$” means the lawful currency of the United States of America. As used in this annual report, the term “noon buying rate” refers to the exchange rate for euro, expressed in U.S. dollars per euro, as announced by the Federal Reserve Bank of New York for customs purposes as the rate in the city of New York for cable transfers in foreign currencies.

      To enable you to ascertain how the trends in our financial results would have appeared had they been expressed in U.S. dollars, the table below shows the average noon buying rates for U.S. dollars per euro for the five years ended December 31, 2005. The averages set forth in the table below have been computed using the noon buying rate on the last business day of each month during the periods indicated.

      The following table shows the noon buying rates for U.S. dollars per euro for the six months ended March 31, 2006:

      On March 20, 2006, the noon buying rate was $1.2168 per €  1.00.

      Since the beginning of 1999, our shares have traded on the Frankfurt Stock Exchange in euro. We expect that fluctuations in the exchange rate between the euro and the U.S. dollar will affect the U.S. dollar equivalent of the euro price of our shares on the Frankfurt Stock Exchange and as a result are likely to affect the market price of our American Depositary Shares (“ADSs”) on the New York Stock Exchange. In addition, you should note that any cash dividends that we may declare in the future will be denominated in euro. Therefore, exchange rate fluctuations between the euro and the U.S. dollar will affect the U.S. dollar amounts that the holders of our ADSs will receive upon the conversion of any cash dividends that we may pay out on the shares represented by these ADSs.

      A substantial portion of our assets, liabilities, revenues and expenses are denominated in currencies other than the euro. Accordingly, fluctuations in the value of the euro relative to other currencies have had a significant effect on the translation into euro of our non-euro assets, liabilities, revenues and expenses, and may continue to do so in the future. For further information on the impact of fluctuations in exchange rates on our operations, see “— Risk Factors — Risks Related to each of our Businesses” and “Item 11: Quantitative and Qualitative Disclosures About Market Risk.”

Risk Factors

      Our business, financial condition and results of operations may suffer material adverse effects due to any of the following risks. Additional risks not known to us or that we now consider immaterial also may adversely affect our business.

Risks Related to each of our Businesses

Because the industries in which we operate are characterized by constant innovation and technological change, our success depends upon our continued ability to develop and market innovative products on a cost-effective basis. If we fail to do so, we may be unable to capture additional market share or may lose market share.

      We operate in the pharmaceuticals and the specialty chemicals industries, both of which are highly competitive and are characterized by intensive research and development efforts and rapid technological change. Our success is highly dependent on our ability to discover, develop and manufacture new and innovative products on a cost-effective basis and to market them successfully. In doing so, we face and will continue to face intense competition from a variety of competitors, ranging from small niche companies to large national and international conglomerates. Based on total assets and annual revenues, we are significantly smaller than many of our competitors, which often have substantially greater financial, R&D and sales and marketing resources than we do. In addition, we may have fewer drug candidates in our pipeline than our larger competitors. As a result, our competitors may succeed in developing and manufacturing products that are superior to our own products or that the market perceives to be more attractive. If this happens, our products may become uncompetitive and we may be unable to capture additional market share or may lose market share. In light of the ongoing consolidation of the industries in which we operate, we expect that the competitive pressures to which we are subject will increase in the future.

We operate in many different countries around the world. As a result, fluctuations in the exchange rates between the euro and other currencies could adversely affect our results of operations and reduce our ability to price our products competitively.

      Due to the international scope of our operations, our net sales and net income may be affected by fluctuations in exchange rates, particularly between the euro and the U.S. dollar. An increasing portion of our sales is made in markets outside the euro zone by our local subsidiaries or through distribution arrangements. As a result, fluctuations between the euro and the currencies in these markets may cause our reported revenues to vary significantly from period to period. For example, the devaluation of the U.S. dollar against the euro that in 2003 and 2004 had a negative impact on our net sales, especially our reported sales of Pantoprazole, which is currently our most important product, in the United States. Although the effect of this devaluation was in part offset by the appreciation of the U.S. dollar against the euro in the course of 2005, there can be no assurance that the U.S. dollar will not depreciate further in the future. At the same time, a substantial proportion of our operating costs continues to be linked to the euro. Accordingly, exchange rate fluctuations have affected our profitability, and they may continue to do so in the future.

      You should note that in the past each of our subsidiaries was responsible for managing its own foreign exchange rate exposure. In 2003, we introduced a uniform hedging strategy for our main currency exposures, especially our exposure to the U.S. dollar and currencies linked to the U.S. dollar, by expanding the time frame for our hedging transactions and the range of instruments that we use in structuring them. We believe that this revised strategy has assisted us in better forecasting our operating results and in limiting our exposure to volatile exchange rates. Nevertheless, fluctuations in the exchange rates between the euro and other currencies, particularly the U.S. dollar, may continue to influence our revenues and profitability.

      In addition to influencing our reported net sales and net income, exchange rate fluctuations may also impact our competitive position in countries whose currencies fluctuate against the euro. In 2004, the strengthening of the euro relative to the U.S. dollar benefited our U.S.-based competitors, including in respect of their activities in the euro zone, and reduced our own pricing flexibility, which adversely affected the reported revenues and profitability of each of our segments. While the euro weakened relative to the U.S. dollar in 2005, it remained relatively strong, and any further strengthening would reinforce this adverse effect on our revenue and profitability.

Because we depend on key management, scientific and technical personnel, our ability to compete would suffer if we were unable to hire and retain qualified employees.

      Our success depends upon the continued contributions of our key management, scientific and technical personnel, many of whom have substantial experience with our company and would be difficult to replace. Competition for qualified personnel is intense in the industries in which we operate, and we may be unable to attract the highly qualified employees that our business requires. If we lose the services of our key management or scientific and technical personnel or do not succeed in attracting highly qualified personnel in the future, our business may be hurt by a reduced ability to compete in the rapidly evolving markets in which we operate.

Our business will suffer if we are unable to obtain and defend intellectual property rights or if we do not gain access to, or are accused of infringing, the intellectual property rights of others.

      Our ability to remain competitive and to capture additional market share, particularly with respect to our pharmaceuticals segment, depends in part on our ability to obtain and defend patents, trademarks and other forms of intellectual property protection for our products, and on our development and manufacturing processes and our know-how. While we intend to prosecute patents vigorously, the process of obtaining patents is lengthy and expensive. There can be no assurance that patents will be granted in connection with any of our currently pending or future applications or that such patents will be valid and of sufficient scope and strength to provide us with meaningful legal protection or any commercial advantage. In 2004, generic drug companies filed Abbreviated New Drug Applications (“ANDAs”) with the U.S. Food and Drug Administration (“FDA”) in the United States challenging our Pantoprazole substance patent with a view to

manufacturing and distributing generic versions of Pantoprazole. In response to one of these challenges, we filed a patent infringement suit in May 2004 in the U.S. District Court for the District of New Jersey. Several companies have also filed ANDAs challenging our Pantoprazole oral formulation patent. Because Pantoprazole enjoys protection in the United States under our substance patent until 2010 (and our oral formulation patent is therefore irrelevant for the time being), we have decided not to take any immediate action with regard to these ANDAs. However, in 2005, one of the challengers of our Pantoprazole oral formulation patent, amended its ANDA to include a paragraph IV certification relating to our Pantoprazole substance patent and in addition filed an ANDA regarding our Pantoprazole intravenous (“IV”) formulation patent. As a result, we filed complaints in the U.S. Federal District Court for the District of New Jersey. In these complaints, we claim that this competitor is infringing our substance patent, but consistent with our approach to the other attacks on our oral formulation patents, do not claim that our IV formulation patent has been infringed. While we believe that our U.S. patents relating to Pantoprazole are valid and enforceable and of sufficient scope and strength to prevent the entities that have made the filings and any other third party from manufacturing and distributing Pantoprazole-based generics at this time, there can be no assurance that we will be successful in defending our patents. For more information, see “Item 4: Information on the Company — Pharmaceuticals — Intellectual Property” and “Item 4: Information on the Company — Legal Proceedings”.

      In addition, intellectual property protection may be unavailable or limited in some of the countries in which we do business. Furthermore, a substantial portion of our know-how is not eligible for patent or comparable forms of intellectual property protection. To protect this type of information against access by competitors, we rely on trade secret law and frequently enter into confidentiality agreements with our employees, customers and partners. These agreements may be unenforceable, however, and the remedies available to us for breaches may be inadequate. Likewise, our competitors may gain access to our know-how by lawful means, for example, by reverse engineering or by independently developing the same know-how, which would destroy any advantage that our know-how may afford us.

      Our competitive position may also suffer if competitors come up with products, development or manufacturing processes or know-how that is protected by patents, trademarks, licenses or other forms of intellectual property protection. Technologies over which our competitors hold intellectual property rights may either be unavailable to us or be available to us only on unfavorable terms. To gain access to such technologies, we sometimes enter into licensing arrangements with third parties. If our licensing partners were to terminate the licenses that we have obtained from them or if we are unable to obtain licenses on commercially favorable terms in the future, our ability to develop, manufacture and market our present and future products may be impaired.

      While we seek to protect our trademarks, which include the names of many of our key products, by filing for trademark protection in most of the countries where we sell these products, you should note that trademark protection consists primarily of a right to sue against infringing uses of a mark and, in order to be effective, requires extensive policing. If we fail to detect instances of infringement or if we do not succeed in defending our trademarks in court, our reputation with our customers and our ability to protect our trademarks in the future may be harmed.

      It may become necessary for us to seek to enforce our patents, trademarks, licenses and other forms of intellectual property protection and to protect our trade secrets by taking legal action or to engage in litigation in order to defend ourselves against claims of alleged infringement of someone else’s intellectual property brought against us by third parties. There can be no assurance that we will be able to successfully settle or otherwise resolve claims that may be brought against us by third parties in the future. If we are unable to successfully settle future claims on terms acceptable to us, we may be required to engage in costly and time-consuming litigation and may be prevented from, or experience substantial delays in, marketing our existing pharmaceuticals and launching new ones. Any of these events could require us to divert substantial financial and management resources that we would otherwise be able to devote to our business.

Because our operations are subject to numerous environmental laws and regulations, we could become exposed to liability and be required to spend substantial amounts in connection with environmental compliance or remediation proceedings.

      Our operations are subject to numerous environmental laws and regulations in the jurisdictions in which we operate. These laws and regulations govern, among other things, air emissions, wastewater discharges, the use and handling of hazardous substances, waste disposal and the investigation and remediation of soil and groundwater contamination. As with other companies engaged in activities similar to ours, we face a risk of environmental liability inherent in our current and historical manufacturing activities. While we do not believe that any currently anticipated environmental compliance and remediation requirements are likely to have a material adverse effect on our business, financial condition or results of operations, we may be forced to incur substantial expenses in connection with future environmental compliance or remediation proceedings, in which case our results of operations and financial condition may be materially adversely affected.

We may be faced with product liability claims, which could impair our reputation in the marketplace and hurt our profitability.

      Although we maintain a comprehensive quality assurance program, there remains a risk that defects may occur in any of our products. The occurrence of such defects could give rise to liability for damages, including consequential and punitive damages, and could, by impairing our reputation, reduce the market’s acceptance of our products. This risk exists in each of our segments.

      To reduce our exposure to the aforementioned risks, we maintain an insurance policy covering product liability claims. There can be no assurance, however, that our insurance policy will be adequate and sufficient to cover all product liability claims that may be brought against us or that we will be able to obtain adequate insurance coverage on commercially reasonable terms in the future. A successful product liability claim in excess of our coverage could require us to pay substantial amounts in damages. In addition, our insurance policy does not protect us against reputational harm that we may suffer if the market perceives our products as unsafe or ineffective.

Our business may suffer as a result of volatility in different parts of the world.

      We operate on a global basis. Our business is therefore subject to a variety of risks inherent in conducting international operations, each of which could adversely affect our business and results of operations. These risks include:

Risks Related to our Pharmaceuticals Business

Because we depend on the sale of a limited number of key products to generate a substantial portion of our revenues, factors adversely affecting the sale of these products could materially harm our revenues and results of operations.

      Like other companies in the pharmaceuticals industry, our pharmaceuticals division depends on sales of certain key products that account for a substantial portion of its revenues. For example, in 2005, our net sales of Pantoprazole, a proton pump inhibitor (“PPI”) that we offer for the treatment of ulcers and reflux disease, accounted for 57.6% of the net sales of our pharmaceuticals division, or 41.6% of our overall revenues. Pantoprazole has been a key revenue driver of our pharmaceuticals division for several years, and we expect that it will continue to account for a substantial portion of our revenues in future periods. Despite the launch

of Ciclesonide under the brand name Alvesco^® in 2005, we expect to continue to depend on a limited number of key products for the foreseeable future, particularly following the termination of our collaboration with Pfizer, Inc. (“Pfizer”) and the withdrawal of our European Marketing Authorization Application (“MAA”) for Roflumilast, a drug we are continuing to develop and intend to market under the brand name Daxas^®. As a result of our dependence on key products, particularly Pantoprazole, factors adversely affecting the sale of any of these products could materially adversely affect our revenues and results of operations. These factors include:

      Pantoprazole in particular faces competition from various other branded PPIs. Most notably, these competitors include AstraZeneca’s Esomeprazole and Takeda’s Lansoprazole. If our competitors continue to invest heavily in marketing these products, the ability of Pantoprazole to capture market share or maintain its current market share could be adversely affected.

      In addition, Pantoprazole and other branded PPIs face competition from generic PPIs, in particular generic PPIs based on a substance called Omeprazole. A variety of companies are marketing Omeprazole-based generics in Europe and the United States at prices that tend to be significantly lower than the price of Pantoprazole and other branded PPIs. Further competition may result from the launch of generic PPIs based on substances other than Omeprazole once the relevant patents have expired. Pantoprazole also competes with over-the-counter (“OTC”) PPIs. Unlike Pantoprazole, these PPIs are available to patients without a prescription. Various Omeprazole-based OTC PPIs have been launched in the United States and several European countries and are being marketed with increasing success. While generic and OTC PPIs have so far had a limited impact on the market for branded PPIs, including Pantoprazole, in Europe, we are experiencing stronger pricing pressure in the U.S. market with respect to Pantoprazole.

      From Pantoprazole’s introduction in 2000 until the fall of 2004, the drug’s market share in the United States grew, with temporary interruptions. However, in 2005 as a result of factors including those described above, Pantoprazole’s share of PPI prescriptions stabilized. Given the increasing competition from generic and OTC PPIs, there can be no assurance that Pantoprazole’s market share, prescription rates and net sales contribution will remain at their current levels in future periods.

      Following the expiration of our Pantoprazole substance patent in most European countries, as extended by supplementary protection certificates, and the United States in 2009 and 2010, respectively, we expect our Pantoprazole sales to decrease substantially.

We depend on Wyeth, Inc. (“Wyeth”) for the marketing and distribution of Pantoprazole in the United States. If Wyeth were to devote insufficient resources to the marketing of Pantoprazole or if we were to lose Wyeth as a partner, our sales of Pantoprazole would be adversely affected.

      Until June 2003, we marketed Pantoprazole in the United States exclusively through Wyeth Pharmaceuticals, the pharmaceuticals division of Wyeth. Since July 2003, our own dedicated sales force for

the U.S. market has been co-promoting Pantoprazole alongside Wyeth. While this arrangement has afforded us greater influence with respect to the marketing of Pantoprazole in the United States, the revenues that we derive from this drug in the U.S. market continue to materially depend on the resources that Wyeth devotes to the marketing of this therapeutic. While our distribution arrangement with Wyeth requires Wyeth to use commercially reasonable efforts to sell Pantoprazole, there can be no assurance that Wyeth’s marketing efforts will continue to be successful. In addition, Wyeth is entitled to terminate its distribution agreement with us under certain circumstances, including when a third party commences legal action against Wyeth alleging patent infringement, as well as without cause upon one year’s prior written notice. If Wyeth terminates the contract for reasons other than because we become insolvent or commit a material breach of the agreement, it is required to transfer all of its rights pertaining to Pantoprazole and to products based on this substance, including any regulatory approvals that it has obtained, to us. See “Item 10: Additional Information — Material Contracts” for a summary of the terms of our agreement with Wyeth. If we were to lose Wyeth as a distribution partner, we would be forced to find a suitable replacement. If we experience delays in finding such a replacement, our ability to sell Pantoprazole in the United States, which accounts for a substantial portion of our Pantoprazole sales worldwide, would suffer, and, accordingly, our results of operations would be adversely affected.

Due to the inherent unpredictability of the process underlying the development of new pharmaceuticals, there can be no assurance that we will be able to successfully and timely launch new drugs and other pharmaceutical products.

      A critical element of our future success is the successful and timely commercial launch of new products. To this end, we devote substantial resources to research and development and have a number of promising candidates for new therapeutics in our pipeline, including a potential next-generation drug for indications similar to those of Pantoprazole and several candidates for the treatment of asthma and chronic obstructive pulmonary diseases (“COPD”). Because of the complexities and uncertainties associated with pharmaceutical research, however, we cannot be certain that any of these drug candidates will survive the development process and ultimately obtain the regulatory approvals needed in order to be launched commercially. Even if the initial results of the development of a drug candidate are positive, adverse or otherwise unsatisfactory results remain possible at any time. For example, in the case of Roflumilast we decided in 2005 to withdraw our MAA after consulting with the European Medicines Agency (“EMEA”) because the clinical record we had established at the time was less compelling than we had expected.

We may be unable to continue our expansion into the U.S. market, or our expansion may be delayed, each of which would limit our growth opportunities.

      A key element of the growth strategy of our pharmaceuticals division is our plan to expand into the United States. The United States is the biggest pharmaceuticals market in the world and offers the greatest growth opportunities for our business. We plan to continue our expansion into the U.S. market with the assistance of experienced co-promotion partners and by exploiting the launch of Ciclesonide, which is aimed at the treatment of respiratory indications, to gradually expand our own sales and marketing organization for innovative therapeutics in the United States. This sales and marketing organization operates separately from our existing U.S. operations for facial topics and certain other types of pharmaceuticals. While we made progress in this area in 2005, if Ciclesonide fails to make it to the U.S. market or to generate sufficient demand in the United States, or if we were to lose our co-promotion partner for this drug and were unable to find a suitable replacement or experience delays in finding a replacement, we may be unable to continue our expansion in the U.S. market or may experience delays in doing so. For example, in 2002, we entered into an agreement with Pharmacia Corporation, which subsequently was acquired by Pfizer, to co-develop and market Roflumilast in the United States, which would have enabled us to further expand our U.S. sales and marketing organization. However, we mutually agreed in 2005 to terminate this agreement and, accordingly, will not be able to collaborate with Pfizer in establishing a sales and marketing organization in regard to this product. If we do not succeed in securing a strategic position in this or other international markets, the growth of our business may be adversely affected. In addition, we may be unable to recover investments that we have already made in these markets.

Because our business is subject to extensive governmental regulation, including price controls, our ability to market our products is subject to administrative constraints over which we have only limited influence.

      The development, manufacture and marketing of pharmaceuticals are subject to extensive governmental regulation. Regulatory approval is required in each jurisdiction in which we operate before any dosage form of any new pharmaceutical, including an off-patent equivalent of a previously approved pharmaceutical, may be marketed in that jurisdiction. The process for obtaining governmental approval to market pharmaceuticals is rigorous, time-consuming and costly, and it is impossible to predict the extent to which this process may be affected by legislative and regulatory developments. We currently have several projects in various stages of the approval process in the United States, the European Union and Japan. If we fail to obtain, or experience delays in obtaining, regulatory clearance to market new pharmaceuticals or existing pharmaceuticals for new indications or if we experience any other regulatory impediments, our results of operations may be adversely affected. Even after a pharmaceutical has been approved, it may be subject to regulatory action based on newly discovered facts concerning its safety or efficacy. Any such regulatory action may adversely affect the marketing of our pharmaceutical products, require changes to their labeling or even force us to withdraw them from the market altogether.

      In addition to the need for obtaining regulatory approval to market new products, we are subject to price controls imposed by local governments and health care providers and in some markets need to obtain special approval before patients are entitled to be reimbursed for purchasing our products. The existence of price controls can limit the revenues that we earn from our products and thus could also have an adverse effect on our results of operations. The way in which price controls operate varies by country and can cause substantial disparities in the price levels prevailing in different markets. Many governments and private medical care providers, such as Health Maintenance Organizations (“HMOs”) and social security organizations, have introduced or are currently in the process of introducing reimbursement schemes that favor the replacement of branded pharmaceuticals by cheaper generic pharmaceuticals. Since January 1, 2003, the pharmaceuticals industry in Germany has been required to grant the German public health care insurance companies (which are the main purchasers of drugs in the German health care market) fixed mandatory rebates (Kassenrabatte) for most ethical therapeutics. These rebates, which were increased from 6% in 2003 to 16% in 2004 before again being decreased to 6% in 2005, have, especially in 2004, negatively influenced our pharmaceuticals sales in Germany when compared to a regulatory environment without such mandatory rebates. At present, it is unclear to what extent proposed new legislation, which is aimed at a two-year price moratorium for all drugs paid for by the statutory health care insurance scheme (gesetzliche Krankenversicherung), will impact our sales in Germany in the future. In addition, in 2004, new legislation took effect which provides for the possibility to include patent-protected drugs in the system of statutory fixed reference prices certain classes of active ingredients. Drugs included in the statutory fixed reference price system are not subject to the fixed mandatory rebates. On January 1, 2005, Pantoprazole was included in the statutory fixed reference price system. The association of the German health care insurance providers has included Pantoprazole in a reference price group along with other branded PPIs and cheaper Omeprazole-based generics. In our view, this classification ignores the substantial therapeutic advantages offered by Pantoprazole compared with Omeprazole (for example, the fact that Pantoprazole has less clinically relevant potential for metabolic interaction with other drugs). While we have lowered our prices for Pantoprazole in Germany to match the statutory fixed reference price for this drug so that German patients insured under the statutory health care insurance scheme (gesetzliche Krankenversicherung) and wishing to purchase Pantoprazole do not have to pay more than the amount covered by their respective health insurance policies, we have also filed suit against the association’s decision before the Social Court in Berlin, Germany. However, there can be no assurance that we will prevail in this lawsuit.

      As a result of these developments, we anticipate that German regulations will continue to have a negative impact on our business in Germany. We are also subject to further price regulations in various other countries, particularly in Europe. In the United States, generic substitution statutes, which aim to promote the substitution of original ethical drugs by less expensive generic drugs, have been adopted in virtually all states. In addition, the reform of the Medicare system, which was put in place at the end of 2003, has introduced pharmaceutical coverage for eligible beneficiaries. While demand for pharmaceuticals in the U.S. market

could therefore increase significantly, the U.S. government could use its purchasing power to demand discounts from pharmaceuticals companies, thereby creating de facto price controls on prescription drugs. As a result, we expect that we will continue to experience pricing pressures, which could adversely affect our revenues and operating results.

As part of our plans to expand our pharmaceuticals business, we expect to make substantial investments in therapeutic areas in which we have limited experience, such as oncology. If we are unable to develop new drugs in these areas, we may be unable to recoup our investments.

      Our medium- to long-term goal is to expand our pharmaceuticals business by entering markets in which we are currently not active. One such market that we may enter is the oncology market, which we expect will grow substantially in the future. We have commenced basic oncological research and entered into R&D collaborations with third parties, and we intend to make further investments related to oncology over the next several years. In addition, we may decide to enter other therapeutics markets, which may require us to make similar investments. Investments of this sort frequently involve significant cash expenditures, for example in connection with hiring qualified scientists, conducting R&D projects and making desirable acquisitions. In addition, you should note that we have limited experience with respect to therapeutics that we do not currently offer. As a result, there can be no assurance that we will be successful in developing, manufacturing and marketing therapeutics for new markets or integrating them with our existing portfolio at all or within a time frame that will enable us to recoup our initial investments. Any of these risks may ultimately have an adverse impact on our business, financial condition and results of operations.

Our R&D strategy involves creating and maintaining alliances and other collaborative arrangements with third parties, and any inability to find or retain suitable collaborators may adversely affect our ability to develop new pharmaceuticals.

      Our continued success will in part depend on our ability to establish new and to maintain existing collaborations, alliances and licensing arrangements with third parties, especially with biotech companies. Collaborations with companies and other entities that have expertise in biotechnology and genetic research are of particular importance to our plans to supplement the existing franchises of our pharmaceuticals business with therapeutics for oncological indications. We may not be able, however, to establish and maintain such collaborations on terms that are acceptable to us or at all. For example, in 2005, we mutually agreed with Pfizer to terminate our collaboration agreement with regard to Roflumilast. Moreover, in view of the ongoing consolidation of the biotech industry, we may experience greater difficulty finding suitable partners in the future, as a number of smaller companies, which would be candidates for collaborations, become part of larger conglomerates that compete with us and that may be unwilling to grant us access to attractive technologies on commercially favorable terms or at all. In addition, we have no control over the amount and timing of resources that our partners devote to our programs. If we are unable to form or maintain alliances or our partners fail to assist us with our R&D efforts, our business may be harmed and our results of operations may be adversely affected.

Risks Related to our Chemicals Business

Demand for our products could suffer as result of periodic downturns.

      Because the specialty chemicals that we offer are used in a wide variety of downstream industries served directly or indirectly by us, including the automotive, construction, electrical appliances and packaging industries, our results are affected by the business cycles experienced by these industries. While we seek to reduce our exposure to these cycles by focusing on complementary geographic and product markets, there is no assurance that we will be successful in insulating our chemicals business from downturns experienced by the industries that it serves. In addition, we are not immune to negative economic developments affecting more than one of these industries. Economic downturns can lead to overcapacity, oversupply, price pressure, reduced growth and lower margins, each of which could adversely affect our business and results of operations.

Our results may suffer if we are unable to offset increases in raw material prices or pass them on to our customers.

      Raw material costs account for a significant portion of the cost of sales of our chemicals business. The prices and availability of the raw materials that we use in our chemicals business vary with market conditions and can be highly volatile. If we are unable to compensate for increasing raw material prices by achieving cost savings in other areas or to pass such increases on to our customers, or if the prices for our products decrease faster than raw material prices, our profitability may be hurt. Our ability to pass on raw material price increases depends on a variety of factors, including the degree to which we are able to distinguish our products from those of our competitors. In 2005, we continued to experience high raw material prices, especially for oil and oil-related products. We continue to attempt to protect ourselves against these developments by streamlining our production processes, centralizing our procurement efforts and substituting more expensive raw materials for cheaper ones. Nevertheless, we have historically not always been successful in offsetting the impact of rising raw material prices, and there can be no assurance that we will be in the future. Even if we manage to pass on increases in raw material costs to our customers further increases in raw material prices may have an overcompensating effect. Therefore, you should be aware that any movements in the level of the raw material prices that we use in our chemicals business may have a material impact on our business, results of operations and financial condition.

Our growth depends in part on our ability to acquire and successfully integrate companies into our existing organization.

      A key element of the growth strategy of our chemicals division is to supplement our internal growth with strategic acquisitions of businesses and technologies that we consider capable of complementing or enhancing our existing products or of providing us with access to new markets. As a result, if we are unable to identify suitable acquisition targets, our growth prospects may suffer. In addition, in pursuing acquisitions, we may face competition from other companies operating in the specialty chemicals and related industries. Our ability to make acquisitions may be limited also by applicable antitrust, anti-takeover and other regulations in the United States, the European Union and any of the other jurisdictions in which we do business. If any of these risks materializes, we may be unable to make desirable acquisitions or to complete them on terms attractive to us. If that occurs, our ability to grow in certain of our business areas may be adversely affected.

      To the extent that we are successful in making acquisitions, we may have to expend substantial amounts of cash, incur debt, assume loss-making divisions and incur other types of expenses. We may also face challenges in successfully integrating acquired companies into our existing organization. For example, in 2005, we acquired ECKART GmbH & Co. KG (the “ECKART Group”). The acquisition of the ECKART Group was significantly larger than the acquisitions we had made previously, and accordingly we may not be as successful in integrating this business as we have been in similar situations in the past. Each of these risks may have an adverse effect on our business, financial condition and results of operations.

Risks Related to Investments in our Company

Because we and our directors and officers are located in Germany, it may be difficult for you to sue these persons in the United States or to enforce judgments by U.S. courts against them.

      We are a corporation organized under the laws of the Federal Republic of Germany, and certain of our directors and executive officers are residents of Germany. In addition, a substantial portion of the assets owned by us and the aforesaid individuals is located outside the United States. As a result, it may be difficult or impossible for you to effect service of process upon us or any of the aforesaid persons within the United States with respect to matters arising under the U.S. federal securities laws or to enforce against us or any of such persons judgments of U.S. courts predicated upon the civil liability provisions of the U.S. federal securities laws. We have been advised by counsel that it is doubtful as to whether original actions of liabilities predicated on the U.S. federal securities laws may be enforced in Germany and that in Germany both recognition and enforcement of court judgments with respect to the civil liability provisions of the

U.S. federal securities laws are solely governed by the provisions of the German Civil Procedure Code (Zivilprozessordnung or ZPO). In some cases, especially when the relevant statutory provisions of German law do not recognize the international jurisdiction of a U.S. court or the judgment conflicts with certain basic principles of German law (for example, the prohibition of punitive damages and limited pre-trial discovery), a U.S. judgment might not be recognized by a German court. Service of process in U.S. proceedings on persons in Germany, however, is regulated by a multilateral treaty guaranteeing service of writs and other legal documents in civil cases if the current address of the defendant is known.

ITEM 4: INFORMATION ON THE COMPANY

Introduction

      We are a globally operating company that develops, manufactures and markets innovative pharmaceutical and chemical products for a range of targeted, highly specialized applications. In 2005, we reported net sales of € 3,272 million, 82% of which were generated outside of our home market Germany, and operating income of €  676 million.

      In each of the last five years, we were able to significantly increase our revenues and operating income, although the growth rate has flattened in recent years. Much of this development has been driven by Pantoprazole, our main therapeutic, which we offer for the treatment of reflux disease as well as gastric and duodenal ulcers, but increasingly also from growth of our chemicals business. We expect further growth of our Pantoprazole sales but, given the market position that Pantoprazole has achieved to date, we expect this growth to slow in the coming years. The following table provides a breakdown of our net sales and shows our operating income for the three years ended December 31, 2005:

Results of Operations

      For a description of our principal capital expenditures over the last three years, see “Item 5: Operating and Financial Review and Prospects — Liquidity and Capital Resources”.

      Our pharmaceuticals division is committed to developing innovative therapeutics for the global pharmaceuticals markets with a strategic focus on unmet medical needs in the gastrointestinal and respiratory areas. Our pharmaceuticals business is currently mainly driven by Pantoprazole. We market Pantoprazole in virtually all regions of the world with the exception of Japan. The main markets for the drug are the United States and Europe. Pantoprazole has been chiefly responsible for the growth of our pharmaceuticals division in recent periods, and we expect that it will continue to be a key revenue driver in the coming year.

      In addition, after successfully completing the Mutual Recognition Procedure (“MRP”) in most European countries, we started marketing Ciclesonide, an innovative product for the treatment of asthma, as a metered dose inhaler (“MDI”) device under the brand name Alvesco^®. We initially launched this product in two European markets, Germany and the United Kingdom. As of mid-March 2006, we had received regulatory approval for Ciclesonide in 35 countries and had launched it in 17 countries. In October 2004, our collaborative partner in the United States, Sanofi-Aventis S.A. (“Sanofi-Aventis”), received an “approvable letter” for Ciclesonide from the FDA.

      We are also developing Roflumilast, a drug candidate for the treatment of asthma and chronic obstructive pulmonary diseases (“COPD”) which we intend to market under the brand name Daxas^®. Following the termination of our cooperation with Pfizer, Inc. (“Pfizer”) and withdrawing our European Marketing Authorization Application (MAA) with respect to Roflumilast in 2005, we are conducting further clinical studies to obtain more data. The submission of a new MAA will be pursued if we view the clinical data obtained in the ongoing clinical trials as sufficiently strong for this purpose.

      In addition to our portfolio of prescription therapeutics, we offer imaging reagents and an assortment of over-the-counter (“OTC”) drugs, which are drugs that are available to patients without prescription.

      Our chemicals division offers a portfolio of innovative high quality specialty chemicals, including additives and measuring instruments, metallic effect pigments and printing inks, coatings and sealing compounds, and electrical insulation coatings for use in a wide range of downstream applications. In light of the highly application-specific nature of the specialty chemicals that we offer, we maintain close contact with our customers and constantly aim to develop, manufacture and market products that respond to their specific requirements. We believe that our customer-oriented approach has enabled us to achieve leading positions in the selected markets that we serve as well as revenue growth and margins above the average of our peers.

      At December 31, 2005, we had operating subsidiaries in over 25 countries, which marketed our products on a worldwide basis. At that date we employed almost 13,300 people, of whom 18% worked in research and development. We believe that our commitment to the international expansion of our business and to R&D will enable us to capture future growth opportunities in the pharmaceuticals and specialty chemicals industries in our various targeted markets.

      We are incorporated as a stock corporation under the laws of the Federal Republic of Germany and began operations as a separate legal entity in 1977 following our spin-off by VARTA AG. The legal name of our company is ALTANA Aktiengesellschaft. Our principal executive offices are located at Am Pilgerrain 15, D-61352 Bad Homburg v.d. Höhe, Germany, and our telephone number is ++49 (0) 6172-1712-0.

Strategy

      Our group mission, which serves as a guiding principle for both our divisions, is to increase our value through sustained profitable growth by developing, manufacturing and marketing innovative products in selected high-margin areas and expanding our operations internationally. We are committed to fully exploiting the opportunities of emerging technologies by investing a substantial amount of our annual earnings in R&D and to enlarging our presence in all important international markets, particularly the United States and Asia.

      We measure our success in creating value by reference to sustained levels of growth in earnings, annual dividends and market capitalization. To focus our efforts on these criteria, we have sought to align the interests of our management and employees with those of our shareholders by implementing stock-based compensation programs. Accordingly, we operate annual stock option plans that are open to our management board, senior executives and other key and high-potential employees. We also offer an annual share ownership plan for those of our employees who are not eligible to participate in our stock option plans. For more information on these plans, see “Item 6: Directors, Senior Management and Employees — Share Ownership — Stock Option Plans” and “— Item 6: Directors, Senior Management and Employees — Share Ownership — ALTANA Investment Program.”

      In 2005, we announced our intention to dissolve our present group structure and to achieve an independent operation of our two divisions in the course of 2006. With respect to our pharmaceuticals division we are analyzing potential strategic partnerships with the aim to examine various options for the long-term future development of our pharmaceuticals business. We also intend to pursue the independent operation of our chemicals business as a listed company. No final decision regarding these projects has yet been made.

      In addition to our overall group strategy, we have also formulated more detailed strategies for each of our two divisions.

      In our pharmaceuticals division, our strategy is to:

      In our chemicals division, we seek to:

Pharmaceuticals

Overview

      We develop, manufacture and market a wide range of pharmaceutical products, with a focus on innovative therapeutics. In addition, we offer imaging reagents and OTC drugs. We benefit from an extensive product portfolio, with particular strengths in the area of gastrointestinal therapies, and market our pharmaceuticals internationally, mainly in the United States, Germany and other countries in Europe, as well as in Latin America. The strength of our portfolio has enabled our pharmaceuticals division to increase its net sales substantially in recent years.

      In 2005, our pharmaceuticals division generated net sales of €  2,365 million, an increase of 12.1% compared with 2004. The chart below provides a breakdown of our pharmaceuticals net sales by geographic region for the three years ended December 31, 2005:

Pharmaceutical Net Sales by Geographic Region

      A substantial portion of our growth is attributable to the successful marketing of Pantoprazole in all key markets for branded proton pump inhibitors (“PPIs”) with the exception of Japan. While we have experienced strong double digit growth in the European markets, growth in North America has recently slowed down due to increased competition in the U.S. market, including from generics and OTC products. We expect that the proportion of our net sales accounted for by sales to Europe and North America will continue to increase in future years due to the continued commercialization of Pantoprazole and the introduction of new pharmaceuticals, such as Ciclesonide, an MDI version of which we are marketing in 17 markets (as of mid-March 2006), including Germany, the United Kingdom, The Netherlands, Brazil, Australia and other countries. This trend may, however, be less pronounced than it has been in the past. The increase in net sales in Latin America in 2005 was due primarily to growing sales of Pantoprazole and Neosaldina^®.

      As a result of the international dimension of our business, our results of operations are materially affected by exchange rate fluctuations in any given period, especially by changes in the exchange rate between the euro on the one hand, and the U.S. dollar and currencies linked to the U.S. dollar on the other hand. See “Item 3: Key Information — Risk Factors — Risks Related to each of our Businesses” and “Item 11: Quantitative and Qualitative Disclosure About Market Risk” for more information on our exchange rate exposure.

      In 2005, our pharmaceuticals division comprised three principal business areas:

      In addition, we generate limited revenues from other sources, mainly from contract manufacturing on behalf of third parties.

      The following chart provides a breakdown of our pharmaceutical net sales by business area for the three years ended December 31, 2005:

Pharmaceutical Net Sales by Business Area

      The growth of our pharmaceuticals division is driven primarily by our therapeutics business and especially by our acid suppressant Pantoprazole, which due to increased sales in most European countries (including Germany) continued to be the primary growth driver for the division, accounting for 57.6% of its net sales in 2005.

Products

Therapeutics

      Overview. In our therapeutics business, we develop, manufacture and market prescription drugs, commonly referred to as ethical therapeutics, primarily for gastrointestinal and respiratory indications. In addition, we market therapeutics for cardiovascular and a variety of other indications. In 2005, our therapeutics business generated net sales of €  2,071 million.

      The following table shows a breakdown of our therapeutics net sales by franchise for the three years ended December 31, 2005:

Therapeutics Net Sales by Franchise

      In the medium- to long-term, we intend to expand our therapeutics business by entering the oncology market. We have already commenced basic research related to oncology and entered into a number of collaborations with biotech companies through which we seek to enhance our R&D expertise in this area. See “— Research and Development — R&D strategy” for more information on our R&D strategy.

      Gastrointestinal franchise. In our gastrointestinal franchise, we market drugs for the treatment of diseases affecting the human esophagus, stomach and intestine. In 2005, our gastrointestinal business achieved net sales of €  1,536 million.

      The most important product in our gastrointestinal portfolio is our patent-protected therapeutic Pantoprazole. In 2005, Pantoprazole accounted for net sales of €  1,361 million, or 88.6%, of the revenues of our gastrointestinal franchise.

      Pantoprazole is an acid suppressant drug that belongs to the family of so-called proton pump inhibitors (“PPIs”). Over the past decade, the worldwide market for PPIs has experienced rapid growth, and the number of PPIs and their labeled indications has expanded. Doctors typically use Pantoprazole for the short- and long-term treatment of patients with gastroesophageal reflux disease (“GERD”), a chronic condition caused by the reflux of stomach acid into the esophagus. Medscape estimates that more than 40% of adults experience GERD symptoms at least twice a week. If left untreated, esophageal damage caused by GERD can lead to even more serious complications, including a precancerous condition known as Barrett’s esophagus and esophageal cancer. Pantoprazole blocks the enzyme responsible for producing acid in the gastric mucosa, thereby restricting the flow of acid into the stomach. Pantoprazole has also received approval in the United States and Europe for the long-term treatment of GERD and recently in some European countries for the “on demand” treatment of GERD. These developments have expanded its use. In addition, Pantoprazole has also received regulatory approval in many countries outside the United States for the treatment of gastric and duodenal ulcers as well as the prevention of ulcers caused by non-steroidal anti-inflammatory drugs (“NSAIDs”). Ulcers result from the digestive action of the gastric juice on the mucous membrane when the latter is rendered susceptible to its action, for example, by certain drugs or local factors, including the Helicobacter pylori infection. Helicobacter pylori is the bacterium chiefly responsible for peptic ulcers. In addition, Pantoprazole has received approval in the United States, Europe and various other countries for application in an intravenous formulation. Pantoprazole intravenous has important therapeutic benefits for the treatment of patients who are unable to receive a PPI by other routes and who need an intravenous (“IV”) agent for the short term. In some countries, we also offer Pantoprazole in combination with two antibiotics for the eradication of Helicobacter pylori.

      We believe that Pantoprazole enjoys therapeutic advantages vis-à-vis its competitors. First, clinical studies we have conducted on Pantoprazole suggest that Pantoprazole has less clinically relevant potential for metabolic interaction with other drugs. This feature distinguishes Pantoprazole from competing PPIs. Our studies have also shown that Pantoprazole has a higher bioavailability than other PPIs. Bioavailability is a measure for the degree and rate at which a substance is absorbed into the body.

      Pantoprazole enjoyed substance patent protection in Europe until June 2005 and enjoys protection based on supplementary protection certificates (“SPCs”) in a majority of European countries until May 2009 and enjoys patent protection in the United States until July 2010 with a possible further expansion of six months in the United States due to a pediatric indication. In 2004, a third party submitted an Abbreviated New Drug Application (“ANDA”) for approval of a generic version of Pantoprazole challenging our Pantoprazole substance patent to the U.S. Food and Drug Administration (“FDA”). In response to this patent challenge, we filed a patent infringement suit against the applicant in the United States in May 2004. We are confident that our U.S. patent relating to Pantoprazole is valid and enforceable and of sufficient scope and strength to prevent the company that submitted the ANDA or any other third party from manufacturing and distributing Pantoprazole-based generics during the remaining life of this patent. In 2004, we also received notices regarding two ANDAs challenging our Pantoprazole oral formulation patent. Because the earliest date that patent infringement with respect to any of our formulation patents for Pantoprazole could pose a threat to our business is 2010 (until which date we believe we will continue to enjoy protection under our substance patent), we decided not to take any immediate steps with regard to these two ANDAs. At the beginning of March 2005, we received a notification from one of the challengers of our Pantoprazole oral formulation patent, informing us about an amendment of the ANDA to include a paragraph IV certification relating to our Pantoprazole substance patent. In view of this amended ANDA, we filed a patent infringement suit against the applicant in April 2005. At the end of May 2005, we received an additional notice on another ANDA challenging our Pantoprazole oral formulation patent. As in the case of former challenges of our oral

formulation patent, we decided not to take any immediate action with regard to this new ANDA. At the end of June 2005, we received an additional notice regarding an ANDA for our Pantoprazole IV formulation patent, again challenging our Pantoprazole substance patent and additionally alleging non-infringement of our Pantoprazole IV formulation patent listed in the “Orange Book”. In view of this new ANDA, we filed a complaint in the U.S. Federal District Court for the District of New Jersey on August 5, 2005. In this complaint we claim infringement of our substance patent, but in line with the attacks on our oral formulation patents, do not claim that our IV formulation patent has been infringed. For additional information, see “— Intellectual Property”, “— Regulation — United States”, “Legal Proceedings” and “Item 3: Key Information — Risk Factors — Risks Related to our Pharmaceuticals Business”.

      We have offered Pantoprazole in our home market, Germany, under the name Pantozol^®, since 1994 and in the United States, under the name Protonix^®, since 2000. As a result, we currently offer the drug in virtually all regions of the world with the exception of Japan. According to our internal records and data provided to us by our co-marketing partners, co-promotion partners and licensees, global market sales of Pantoprazole amounted to €  2,768 million in 2005. Market sales include our own direct sales to the market as well as the sales of our licensees and co-marketing and co-promotion partners. See “— Sales and Marketing” for a description of our sales and marketing organization.

      Pantoprazole has experienced rapid growth in almost every market in which it has been launched, although the growth rates have tended to flatten over the years, as Pantoprazole has achieved an established market position. Based on data available to us, total market sales of Pantoprazole in 2005 totaled € 1,531 million in North America, € 292 million in Germany, € 757 million in Europe excluding Germany, € 52 million in Latin America, and € 136 million elsewhere. These figures yield total market sales of Pantoprazole of € 2,768 million in 2005, compared with € 2,481 million in 2004 and €  2,350 million in 2003. The growth in total market sales of Pantoprazole in each of the three years reflects the strong growth in demand for this product in many regions of the world, including the U.S. market.

      Our launch of Pantoprazole in the United States benefited from our marketing collaboration with Wyeth Pharmaceuticals, the pharmaceuticals division of Wyeth, Inc. (“Wyeth”). According to IMS Health, as of the week ending February 24, 2006, Pantoprazole’s share of new U.S. prescriptions for PPIs was 19.7%, while our total prescription share amounted to 19.8%.

      We expect Pantoprazole to continue to be a key revenue driver for our business for at least the next several years, although we expect the growth rate to flatten given that the drug has already achieved a substantial position in all markets in which it has been launched and as a result of the impact of increasing competition. Pantoprazole faces competition from various other branded PPIs, including Takeda Pharmaceutical Company Limited’s (“Takeda”) Lansoprazole and AstraZeneca’s Esomeprazole. If our competitors continue to invest heavily in marketing these products, the ability of Pantoprazole to capture market share or maintain its current market share could be adversely affected. In addition, Pantoprazole faces increasing competition from generic PPIs, in particular generic PPIs based on a substance called Omeprazole. A variety of companies, including Schwarz Pharma AG (“Schwarz Pharma”), Mylan Laboratories Inc. (“Mylan”), Novartis AG (“Novartis”), TEVA Pharmaceutical USA, Inc. (“TEVA”) and Torpharm Inc. (“Torpharm”), are marketing Omeprazole-based generics in Europe and the United States at prices that tend to be lower than the price of Pantoprazole and other branded PPIs. Further competition may result from the launch of generic versions of PPI molecules other than Omeprazole once the relevant patents have expired. In addition, Pantoprazole competes with OTC PPIs. Unlike Pantoprazole, these PPIs are available to patients without a prescription. Various Omeprazole-based OTC PPIs have been launched in the United States and several European countries and are being marketed with increasing success. While generic and OTC PPIs have so far had a limited impact on the market for branded PPIs, including Pantoprazole, in Europe and the United States, we have started to experience stronger pricing pressure in the U.S. market.

      Factors that we believe should limit Pantoprazole’s ongoing exposure to competition include Wyeth’s branding experience, which we believe should enable us to continue to convey the therapeutic benefits of Pantoprazole to the market, and the pricing of Pantoprazole at a substantial discount to other PPIs, including AstraZeneca plc’s (“AstraZeneca”) Esomeprazole. However, there can be no assurance that we will be able

to raise or maintain Pantoprazole’s market share in future periods. See “Item 3: Key Information — Risk Factors — Risks Related to our Pharmaceuticals Business” and “— Competition” for more information on the competitors of Pantoprazole.

      Our continued commitment to the development of innovative gastrointestinal therapeutics has yielded Soraprazan, a potential next-generation drug for indications similar to those of Pantoprazole. Soraprazan is currently in Phase II clinical development. See “— Research and Development — Pipeline” for more information on Soraprazan and its therapeutic profile and on our R&D efforts in the area of gastrointestinal therapeutics generally.

      Respiratory franchise. In our respiratory franchise, we offer drugs to treat chronic obstructive lung diseases, such as asthma and chronic obstructive pulmonary disease (“COPD”), and respiratory infections. Asthma is a chronic inflammation of the airways, often of allergic origin, that is marked by continuous labored breathing accompanied by wheezing, breathlessness, a sense of constriction in the chest, and often by attacks of coughing or gasping. According to the Global Initiative for Asthma (“GINA”), more than 300 million people worldwide suffer from asthma. The prevalence of asthma is increasing by approximately 50% every decade, and worldwide deaths from asthma total more than 180,000 annually. COPD is a pulmonary disease that is characterized by chronic, typically irreversible airway obstruction resulting in a slowed rate of exhalation. The airflow limitation is typically associated with an abnormal inflammatory response of the lungs to noxious particles or gases. COPD is often, though not always, caused by smoking. Over time, greater airway damage occurs, and patients eventually die due to lung failure. COPD affects 600 million people worldwide and deaths total more than 2.75 million people each year, according to estimates by the World Health Organization. Our respiratory business generated net sales of €  69 million in 2005. We expect the sales of our respiratory business to show above average growth in the next years.

      Currently, the principal drug of our respiratory franchise is theophyllin, which we market under the brand names Euphyllin^®/Euphylong^®. Theophyllin is used for the treatment of asthma and COPD.

      As of mid-March 2006 we had received approval for another respiratory drug, Ciclesonide, in 35 countries and launched the MDI application of Ciclesonide under the brand name Alvesco^® in 17 markets, including Germany, the United Kingdom, The Netherlands, Brazil, Australia and other countries. In February 2006, the indication of Alvesco^® has been extended to treat mild to severe persistent asthma in adolescent patients aged 12 and older. The United Kingdom was the MRP reference member state for marketing approval across a number of EU countries. We intend to obtain approvals in the remaining European countries based on the MRP as soon as practicable. For more information on the MRP see “— Regulation — European Union”. Starting in 2002, we filed applications for regulatory approval of Ciclesonide in many other countries, including in the United States at the end of 2003. Our collaborative partner in Japan, Teijin Ltd., filed for regulatory approval of Ciclesonide in January 2004. In October 2004, our collaborative partner in the United States, Sanofi-Aventis, received an approvable letter for Ciclesonide from the FDA. An approvable letter outlines specific issues that must be resolved before the FDA will approve a drug for marketing. Sanofi-Aventis is working closely with the FDA to address the requests outlined in the letter.

      We have an additional innovative respiratory drug candidate, Roflumilast, at an advanced stage of clinical development. After withdrawing the MAA for Roflumilast in November 2005 we will complete the ongoing clinical trials and conduct further clinical studies to obtain more data with a view to submitting a new MAA. The submission of a new MAA will be pursued if clinical data are considered sufficient. We also intend to submit an application for regulatory approval for Daxas^® in the United States as soon as we have obtained the necessary data. See “— Research and Development — Pipeline” for more information on our R&D pipeline in the respiratory area and “Item 3: Key Information — Risk Factors — Risks Related to our Pharmaceuticals Business” for risks associated with the regulatory approval of pharmaceuticals under development.

      For respiratory indications, we also offer Broncho-Vaxom^®, an oral drug used principally for the treatment of recurrent respiratory tract infections. Broncho-Vaxom^® consists of fractions of eight different strains of bacteria whose application stimulates the natural defenses of the body. As a result, the drug can reduce the severity of symptoms and help patients develop a greater resistance to respiratory tract infections,

thereby reducing the incidence and duration of such infections in adults and children. We license Broncho-Vaxom^® from OM PHARMA SA, a company located in Switzerland.

      Other therapeutics. In our other therapeutics business, we market a variety of therapeutics for indications outside of our two main franchises, including therapeutics to treat cardiovascular diseases. In 2005, our other therapeutics business had net sales of €  466 million.

      Our main product offerings in the cardiovascular area is Ebrantil^®, a drug based on a substance called urapidil, which is available as both an oral and an IV formulation. Ebrantil^® is used for the treatment of hypertension. Hypertension is characterized by an increase in blood pressure above normal levels over a prolonged period of time. The condition can cause damage to the heart and blood vessels, creating an increased risk of heart attack, heart failure and stroke. Ebrantil^® is a so-called selective alpha-1 receptor antagonist with central anti-hypertensive action. Alpha receptors are cellular entities that exist on the surfaces of cells and are stimulated by the sympathetic nervous system. Alpha receptor antagonists reduce stress symptoms by inhibiting the effects of the sympathetic nervous system, thereby preventing cardiovascular damage. Ebrantil^® is a result of our own cardiovascular R&D efforts. Apart from cardiovascular products, our main products in this area are drugs for the treatment of rheumatism and for urological and gynecological indications, as well as iron supplements and facial topicals. In 2005, we acquired the rights to certain dermatology products in the United States from GlaxoSmithKline plc (“GlaxoSmithKline”).

OTC

      In our OTC business, we market a variety of non-prescription drugs directly to the consumer. Our portfolio includes gastrointestinal drugs, pain killers, tonics and vitamins. Unlike ethical therapeutics, patients may purchase OTC drugs without a prescription. The OTC market has grown considerably in importance in recent years, as health insurance companies have become more cost-sensitive and refuse to refund the costs of certain categories of therapeutics (especially drugs used to treat “trivial” complaints). Therefore, we have switched several products from prescription to self-medication. We achieve approximately 30% of our OTC revenues in Germany. We also distribute OTC drugs through our subsidiaries in a number of other regions of the world, most notably in other parts of Western Europe and in Latin America. In December 2003, we acquired Neosaldina^®, an OTC product for pain treatment, in Brazil. In 2005, our OTC business generated net sales of €  131 million.

      The most important products in our comprehensive OTC portfolio are Buerlecithin^®, Neosaldina^®, Riopan^® and Sanostol^®. Buerlecithin^® is a tonic based on lecithin, a substance found in soy plants, and is used to increase mental productivity. Neosaldina^® is a pain killer that is widely used for the treatment of headaches and is well-established in Brazil, where it is the best-selling pain treatment drug in pharmacies. Riopan^® is an antacid for the treatment of GERD, duodenal and gastric ulcers, and stress-related mucosal damage. Antacids are agents that neutralize acidity and are used as an adjunct to other drugs to relieve ulcer pain and as self-medication against acid indigestion, heartburn, dyspepsia and sour stomach. The therapeutic importance of antacids has been declining in recent years in view of the better clinical efficacy of PPIs, such as Pantoprazole. We currently market Riopan^® as an ethical therapeutic in some markets but mainly offer it as an OTC drug. Sanostol^® is a widely recognized vitamin preparation for children in Germany and many other countries.

Imaging

      In our imaging business, we offer a variety of in vivo diagnostic applications, which are applications for diagnosing medical conditions in the living body of a human. Imaging is a term that covers a range of diagnostic techniques for creating images of parts of the human body. Our portfolio comprises contrast media for x-ray imaging, magnetic resonance imaging (“MRI”) and ultrasonic imaging. MRI is an increasingly important noninvasive diagnostic technique that produces computerized images of internal body tissues and is based on nuclear magnetic resonance of atoms within the body induced by applying radio waves. In 2005, our imaging business generated net sales of €  108 million. We offer our imaging portfolio in cooperation with Bracco S.p.A. (“Bracco”), an Italian company active in contrast media. Under the terms of our collaboration

with Bracco, we manufacture a variety of contrast media developed by Bracco and market them in Germany and in parts of Central Europe. We believe that as a result of our collaboration with Bracco, we are among the leading providers of contrast media in Europe.

Research and Development

R&D strategy

      We consider R&D to be the foundation of the long-term growth of our pharmaceuticals division and are committed to maintaining a high level of investment in R&D in the future. The table below provides information regarding our pharmaceutical R&D expenditures for the three years ended December 31, 2005:

R&D Expenditures

      We believe that our current level of R&D expenditures positions us well vis-à-vis our peers. Our goal is to continue to spend approximately 20% of our therapeutics net sales on R&D in the future. We intend to allocate approximately 20% of our R&D expenditures in any given year to basic research and drug discovery.

      The main focus of our R&D expenditures in recent years has been therapeutics, which is the single most important contributor to our pharmaceuticals revenues and which we expect to increase in importance in the future. Within therapeutics, we concentrate on the development of innovative drugs for gastrointestinal and respiratory indications. We have identified oncology as a further focal point of our R&D efforts. To this end, we have commenced basic oncological research and entered into a variety of collaborations with biotech companies. In addition, we also conduct R&D related to molecular diagnostics.

      Our current R&D facilities are located in Constance, Germany; Hamburg, Germany; Bromma, Sweden; Florham Park, New Jersey; and Waltham, Massachusetts. In addition, we recently established a new research institute in Mumbai, India. This new institute is intended to enhance our research capacity in the field of medicinal chemistry and focuses on discovery research into small molecules, new targets and new chemical entities as well as data management of clinical study results and clinical development activities. We expect that this institute will significantly increase our ability to synthesize new chemical compounds in our core indication areas and will be part of our global clinical development program.

      In addition to carrying out R&D projects internally, we continuously seek to enhance the scope and depth of our research portfolio by obtaining access to outside knowledge, mainly through collaborations with companies in the biotech field. Our immediate goal is to intensify our activities in the areas of genomics, proteomics and high-throughput screening (“HTS”) by acquiring equity holdings in biotech companies, sponsoring research projects and facilitating collaborations that we believe will yield results which may assist us with the development of innovative new therapeutics. In addition to collaborating with third parties in the area of basic research, we also enter into co-development arrangements with third parties. By supplementing our own development efforts with the resources of third parties, we believe that we can enhance the commercial potential of our research results.

      We believe that our scientific staff is a key to our success. At December 31, 2005, 1,764 of our employees – about 20% of the workforce of our pharmaceuticals division – worked in our pharmaceutical

R&D laboratories and offices. Our goal is to attract and retain the best-qualified scientists for our R&D activities. To this end, we offer our employees a competitive compensation package, which includes the ability to participate in our various employee incentive plans. See “Item 6: Directors, Senior Management and Employees — Share Ownership — Stock Option Plans” for additional information on our stock option plans.

Pipeline

      Overview. We currently have several therapeutics in various stages of our R&D pipeline. For each project, we are required to conduct a number of pre-clinical and clinical studies. In the pre-clinical project phase, we typically conduct a number of in vitro and in vivo studies on animals to test the molecular and physiological effects of a drug candidate on cellular systems and its mechanisms of action. If these tests yield positive results, we then conduct Phase I, Phase II and Phase III clinical studies on humans to test the safety and clinical efficacy of the drug candidate. For more information on the regulatory approval process, see “— Regulation — Overview of the clinical trial process”.

      While regulators in the United States and the European Union require that we conduct comprehensive pre-clinical and clinical studies before applying for authorization to market a drug, we typically need not conduct all requisite studies in each of the two jurisdictions. Instead, we are usually able to apply to the regulator of one jurisdiction to give us credit for studies conducted in other jurisdictions. Sometimes, a regulator will require us to supplement our existing studies with additional trials in order to satisfy all applicable requirements. As a result, we often manage to use, for example, the results of Phase I trials conducted in the European Union in order to qualify for Phase II trials in the United States and vice versa. Historically, we used to first test our drug candidates in the European Union and subsequently transfer the results of these tests to the United States, subject to any additional testing required by the FDA. More recently, in connection with the international expansion of our business, we started to conduct trials in the European Union and United States in parallel. In doing so, we rely partly on our own resources and partly on collaborations with third parties.

      Consistent with our R&D strategy, we focus our development efforts on innovative drug candidates for gastrointestinal and respiratory indications.

      Gastrointestinal franchise. In the gastrointestinal area, we focus our R&D efforts on a new class of therapeutics known as potassium competitive acid blockers (“P-CABs”). Our main drug candidate in this area is Soraprazan, which we are developing for the treatment of GERD and other acid related diseases. P-CABs are widely considered the next generation of acid suppressants. Like PPIs, P-CABs restrict the flow of acid into the stomach. They differ from PPIs, however, in the way they operate. Whereas PPIs must be converted in the body before they can bind to the proton pump, P-CABs act directly via an ionic inhibition of the pump. As a result of this difference, Soraprazan displays a faster and more pronounced onset of action and disconnects much more easily from the pump, which we believe should lead to significant therapeutic benefits compared with currently available treatments for GERD and ulcers, such as better symptom relief. This characteristic should make Soraprazan more suitable for treating the symptoms of various gastrointestinal diseases. Soraprazan is currently in Phase II development. Initial data from early Phase II studies indicate that Soraprazan is effective and well-tolerated.

      Respiratory franchise. Our pipeline for respiratory indications contains a series of innovative drug candidates for the treatment of asthma, COPD and rhinitis. Rhinitis is a disease that causes inflammation of the mucous membrane of the nose.

      The table below provides an overview of our respiratory pipeline along with the respective development stages of each drug:

      As part of the regulatory approval process, a New Drug Application (“NDA”) must be submitted to the FDA in the United States. In the European Union, a Marketing Authorization Application (“MAA”), has to be submitted to the EMEA. For more information on the regulatory approval process, see “— Regulation”. In light of the inherent unpredictability of the regulatory process, you should be aware that there can be no assurance that an MAA or NDA with respect to any of the drug candidates listed in the table above will be filed by any particular time or at all.

      Ciclesonide, which we have started to market under the name Alvesco^®, is an inhaled corticosteroid for the treatment of asthma. Because asthma is a global and widespread disease, there is a substantial need for further effective therapeutics in addition to those which are already on the market. Corticosteroids are powerful anti-inflammatory drugs that prevent asthma attacks by reducing airway hyper-responsiveness and inflammatory reactions, such as edema and mucous secretion. Inhaled steroids are considered the current drug of choice for the treatment of asthma, as they offer the best overall therapeutic profile. The inhaled steroids currently available on the market, however, have two main side effects. First, when administered via inhalers, portions of the drugs’ active ingredients are deposited not only in the lung but also in the mouth and throat, which can cause local side effects such as hoarseness and fungal infections. Second, once spread throughout the body following absorption and distribution via the blood, the systemic availability of these ingredients can lead to serious systemic effects. Of these systemic effects, diabetes, osteoporosis and slowed growth in children are the most important. In contrast, Ciclesonide is activated predominantly in the lung. This feature of Ciclesonide reduces the systemic effects that characterize existing inhaled steroids and may provide the drug with a significant therapeutic advantage over present treatments. In clinical trials, patients treated with Ciclesonide have experienced significantly fewer mouth and throat side effects, while benefiting from improved lung function, effective symptom control and reduced use of rescue medications.

      We are developing Ciclesonide for use in connection with MDIs, nasal applicators and as a dry powder inhaler (“DPI”) in combination with formoterol, which is a compound acting as an acute bronchodilator.

      As of February 2006, we had received approval for an MDI version of Ciclesonide, for which we use a CFC-free environmentally friendly device, in 35 countries and had launched it under the brand name Alvesco^® in 17 markets. In October 2004, our collaborative partner in the United States, Sanofi-Aventis, received an “approvable letter” for the MDI version of Ciclesonide from the FDA. Phase II studies with respect to a DPI version of Ciclesonide in combination with formoterol for oral inhalation are ongoing. With respect to the nasal applicator version of Ciclesonide, we have completed several Phase III studies. In December 2005, we submitted a New Drug Application (NDA) for marketing approval in the United States, and filed for registration of the nasal applicator version of Ciclesonide in Canada in January 2006.

      Roflumilast, which we intend to market under the name Daxas^®, is a selective phosphodiesterase (“PDE”) 4 inhibitor for the treatment of asthma and COPD. In the United States, COPD is second only to cardiovascular disease as a cause of disability, according to U.S. Social Security statistics, which speaks to

the substantial need for an effective treatment. PDE 4 inhibitors are substances that have anti-inflammatory and immuno-modulatory effects and are effective against various inflammatory diseases. We refer to Roflumilast as a “selective” PDE 4 inhibitor because it selectively inhibits one form of the PDE enzyme family, namely the PDE 4 enzyme. As a result of its special molecular interaction with this enzyme, we expect that Roflumilast will have an improved side-effect profile compared with other PDE 4 inhibitors. Unlike most existing therapies for asthma and COPD, Roflumilast can be administered orally.

      For both the asthma and the COPD indications of Roflumilast, we have completed a number of Phase III studies and are currently in the process of conducting several additional studies. Effective June 30, 2005, we mutually agreed to terminate our collaboration with Pfizer regarding Roflumilast, and in November 2005 we withdrew the MAA for this drug candidate after consulting with the EMEA because the clinical record we had established at that time was less compelling than we had expected. The submission of a new MAA will be pursued if we view the clinical data obtained in the ongoing clinical trials as sufficiently strong for this purpose.

      While clinical trials of the various pipeline drugs described above have so far shown promising results, given the nature of the drug development process, there can be no assurance that any of these drugs will reach the market. There is always a significant risk that adverse results with respect to a drug will become apparent in the future, which may result in substantial delays in the launch of the drug and possibly force us to abandon the drug altogether.

      Oncological franchise. Since 2001, we have systematically built up research structures for oncology and a research network with experienced partners. We have made progress in our discovery research activities and intend to identify our first clinical project candidates in the coming years. We are focusing on a portfolio of synthetic small molecules, which are anti-cancer drugs targeting processes in tumor cells that have been proven to be important for the oncogenic phenotype.

      Furthermore, we are evaluating in-licensing projects in oncology with a strategic and content-wise fit to our own research.

R&D collaborations

      Overview. The table below provides an overview of some of our more important current R&D collaborations, including a brief description of the scope and objectives of each:

R&D Collaborations

      Research collaborations. In 2000, we entered into an alliance with GeneData AG (“GeneData”), a Swiss company that is a leading provider of bioinformatics and genomics information management and analysis systems used in various genomic R&D applications. Our collaboration with GeneData has put us in a position to manage the huge amounts of data involved in functional genome analysis, thereby significantly enhancing our capabilities in this important area of pharmaceutical R&D. In 2002, we expanded the scope of our collaboration with GeneData to develop a high-throughput screening (“HTS”) data storage and analysis system. HTS is an automated process that is used to select the best drug candidate from among hundreds of thousands of candidate molecules.

      We are engaged in a research alliance with GPC Biotech AG (“GPC”), which includes different research programs and collaboration agreements. In 1998, we entered into our first collaboration, under which we cooperated to investigate new genomic targets for the control of infections. In December 2000, we entered into a research alliance with GPC in the area of tumor research. Under the terms of this agreement, we collaborated in the identification of tumor-specific targets, i.e., targets whose inhibition selectively eradicates cancer cells (but not normal cells). Both research programs have been completed. In addition to research, we are also entitled to have target validation, assay development and screening carried out by GPC. In 2001, we entered into an agreement with GPC, pursuant to which the company provides us with technology for our research unit in Waltham near Boston, Massachusetts, which specializes in functional genomics and proteomics. In addition, under the terms of the agreement, we collaborate with GPC in the area of pathway mapping and kinases. Kinases are enzymes that catalyze the transfer of phosphate groups and play an important role in the cell cycle and for the regulation of biochemical pathways in living cells.

      In July 2001, we entered into a three-year arrangement with Atugen AG (“Atugen”) pursuant to which Atugen will carry out target validation for us, including the validation of tumor-specific targets. The agreement was partially renewed until the end of September 2006. Target validation constitutes an essential step in the process of turning new target proposals identified with genomic technologies, which is the subject-matter of our agreement with GPC, into new drugs. The agreement will help us determine whether a target is critically involved in a disease process and whether drugs that modulate the target are likely to have a beneficial therapeutic effect.

      Since 2001, we have collaborated with Evotec OAI AG (“Evotec”) in the field of HTS technologies. As part of this collaboration, Evotec develops specialized equipment for the detection of fluorescence signals in cellular HTS assays, which constitutes a core capability for the high content screening of bioactive

compounds and which we believe will provide us with a competitive advantage. The collaboration entitles us to a non-exclusive license to this technology. In October 2004, we signed an agreement with Evotec to advance the discovery of one of its kinase assays. Applying Evotec’s drug discovery engine from target to clinic, we aim to identify and optimize novel lead compounds that interact with the target in the research program.

      In October 2001, we entered into a collaboration with Proteros Biostructures GmbH (“Proteros”), a company specializing in x-Ray crystallography of proteins. Under this collaboration, Proteros develops crystallization protocols for target proteins, 3D-structure elucidation of these proteins as well as protein-ligand complexes that permit the further optimization of our lead structures. The collaboration gives us an exclusive right to use the data generated by Proteros in our own R&D efforts, for example, in connection with the development of biological targets and bioactive compounds.

      In October 2005, we entered into an agreement with BIOCRATES Life Sciences GmbH (“Biocrates”) to conduct a placebo-controlled preclinical study which is intended to characterize the effects of a novel drug in a mouse model for a major metabolic ailment. As part of this collaboration, Biocrates develops specialized assays based on mass spectrometry for the quantitative analysis of metabolites in biological samples. By analyzing the changes of metabolites and their concentration in body fluids as a response to the effects of a substance in a biological system, the metabolomics technology is intended to speed up drug discovery processes, reduce late-stage drug development failures due to adverse side effects and discover new biomarkers for monitoring drug response in patients.

      Development collaborations. We are currently party to three development collaborations. In 2001, we entered into an agreement with Aventis Pharmaceuticals Inc., the U.S. pharmaceuticals subsidiary of Aventis S.A., now Sanofi-Aventis, pursuant to which we cooperate with Sanofi-Aventis in connection with the ongoing Phase III clinical trials for the MDI version of Ciclesonide carried out in the United States and share the costs of these trials. In addition, we agreed with Sanofi-Aventis that if we obtain regulatory approval to launch the MDI version of Ciclesonide in the United States, we will distribute the drug in the U.S. market in collaboration with Sanofi-Aventis. Additionally, we co-develop the DPI version of Ciclesonide in combination with formoterol together with Sanofi-Aventis. If we obtain regulatory approval we will launch the combination product in the United States in collaboration with Sanofi-Aventis. In 1998, we entered into a contract in relation to Ciclesonide with Teijin Ltd. (“Teijin”), a Japanese conglomerate, pursuant to which we granted Teijin the right to develop and market Ciclesonide in Japan. Our collaboration with Teijin will enable us to gain access to the Japanese market, which operates substantially differently from the U.S. and EU markets, through an experienced partner. In addition, we agreed with Teijin to collaborate in the development of the nasal application of Ciclesonide.

      In 2002, we entered into an agreement with Tanabe Seiyaku Co. Ltd., a Japanese company, for the co-development and co-promotion of Roflumilast in Japan.

      Effective June 30, 2005, we mutually agreed to terminate our collaboration with Pfizer Inc. (“Pfizer”) regarding the co-development and marketing of Roflumilast. Under the terms of the termination agreement, Pfizer returned all of its rights in Roflumilast to us. We have assumed sole responsibility for the further development of Roflumilast and in particular further clinical studies.

Supplies and Raw Materials

      We purchase our supplies and raw materials on a worldwide basis from a number of third-party providers. In those instances where there is only a single supplier, we seek to reduce our dependence on that supplier by accumulating and maintaining strategic reserves of the supplies and raw materials that we need for the manufacture of our products. We may also seek to qualify new suppliers, and, to the extent feasible, develop production processes in our own facilities. We typically attempt to secure strategic materials through medium- and long-term supply contracts and to ensure that in case of an outage, alternative sources would be readily available to us without undue expense and delay. We have not experienced significant difficulties in obtaining sufficient amounts of supplies and raw materials in recent years, and we do not expect to encounter such difficulties in the foreseeable future.

      We have several sources for the most important raw materials of Pantoprazole, i.e., the active ingredient of the drug and a freeze-dried IV formulation. We source the active ingredient of Pantoprazole from our FDA-approved Singen facility and from two suppliers, one of which has received FDA approval. The IV formulation is sourced internally from our Singen facility and from two external contract manufacturers as back-up sources, one of which has received FDA approval.

      Our product Ciclesonide is sourced from our partner 3M in the United Kingdom based on a long-term supply and collaboration contract. 3M’s manufacturing site has already passed pre-approval inspection by the FDA.

Production

      In the area of production, our goal is to ensure consistent quality and to minimize costs by creating facilities that specialize in discrete manufacturing tasks. We concentrate the manufacture of most of our products for the supply of the worldwide pharmaceuticals markets in Europe. Our manufacturing facility in Singen, Germany, has sole responsibility for all sterile application forms, including Pantoprazole IV, and also produces non-sterile semi-solid and liquid application forms as well as active pharmaceutical ingredients, predominantly Pantoprazole. Our facility in Oranienburg, Germany, which we have recently expanded, is engaged in the production of solid dosage forms, primarily Pantoprazole tablets. In June 2005, we opened an expansion unit at our Oranienburg facility, which increased our production capacity at that facility. Our facility in Lyszkowice, Poland, specializes in solid and liquid OTC formulations. We started the construction of a new manufacturing facility for Pantoprazole and Roflumilast tablets in Carrigtohill, Ireland, in the fourth quarter of 2003 and expect to complete this facility in 2006. In Latin America, our facility in Jaguariuna, Brazil serves predominantly the local market with various technologies, whereas the site in Mexico City supplies Mexico and other countries in Central America. All of our sites comply with current Good Manufacturing Practice (“cGMP”) standards, which are a set of officially recognized scientifically sound methods, practices and principles for the development and manufacture of pharmaceuticals. In addition, certain of our sites, including Singen and Oranienburg, have been inspected and have received approvals by the FDA and the relevant EU authorities.

      We currently operate ten production facilities around the world. We source the active ingredient for Pantoprazole principally from our manufacturing facility located in Singen, Germany, and Isochem S.A., a French company that performs contract manufacturing for us. Pantoprazole tablets are manufactured at our facilities in Oranienburg, Germany, and Jaguariuna, Brazil. While we procure key starting materials for Pantoprazole from our facility in Mumbai, India, we also use external sources. For the construction of our Mumbai facility we have entered into a 50% joint venture with a third party. We own all of our principal production facilities and, with the exception of our facility in Ireland, substantially all of the land on which they are located.

      The following table shows selected key information with respect to our principal current manufacturing facilities as well as our facilities under construction:

Production Facilities

Sales and Marketing

      We use the ALTANA brand to market products of our pharmaceuticals division on a worldwide basis. In doing so, we use sales and marketing methods customary in the pharmaceuticals industry. In addition to advertising our drugs, we maintain a network of sales representatives, collaborate with third parties and use our company’s website to provide information about our pharmaceuticals. We also grant rebates to our customers. Our rebate practices vary widely among the countries in which we are active, depending on the respective country’s regulatory framework and our position in the relevant market. The amount of control that we have over the sales mix used by our partners in any given market depends on the distribution arrangements we use in that market.

      We have sales and marketing organizations in most European markets. Like other pharmaceuticals companies, however, we do not distribute our products exclusively through our own sales and marketing organization but also use collaborations with third parties. For example, while we supply a number of hospitals directly, we frequently rely on wholesalers to distribute our products to retailers, such as pharmacies.

      Following the establishment of an additional sales force in the United States in 2003, which co-promotes Pantoprazole in the U.S. market under the name Protonix^® alongside Wyeth, our sales force in the United States now comprises approximately 600 individuals. We expect that our U.S. sales organization will assume a significant role in the distribution of any new drugs launched in the U.S. market. For the time being, our staff co-promotes Pantoprazole and several drugs of Pfizer in the United States.

      In Japan, we established our own operating subsidiary in January 2004, which together with our Japanese partner Tanabe Seiyaku Co. Ltd. focuses on the development and, following approval, the marketing of Roflumilast in the Japanese market.

      With respect to Pantoprazole, we have found it desirable to supplement our own sales and marketing efforts with the branding experience and marketing capabilities of external partners, particularly in the United States.

      Among our third-party partners, we distinguish between licensees, co-marketing partners and co-promotion partners. Licensee partners are typically used in markets that we do not serve ourselves. By

contrast, co-marketing and co-promotion partners are distributors that we use in markets where we have a sales and marketing organization of our own. We use co-marketing partners to sell a product under more than one brand in the same market. Although we typically coordinate our efforts with our co-marketing partners, particularly in terms of dealing with regulators and drug safety, we and our co-marketing partners each manage a separate brand and use distinct distribution channels. Typically, we charge our co-marketing partners a fee in an amount tied to the price that they charge their customers. By contrast, when we use co-promotion partners to market a product under a single brand, either we or our co-promotion partners take sole responsibility for distributing the product, although we cooperate with our co-promotion partners in promoting the brand under which the product is marketed.

      The type of arrangement we use in any given situation depends on the particular product and the requirements of the targeted market. For example, our licensing agreement with Wyeth to distribute Pantoprazole in the United States has been expanded by a co-promotion agreement when we began to build a sales and marketing organization of our own in 2003. Pursuant to the license agreement, Wyeth is required to use commercially reasonable efforts to distribute Pantoprazole in the U.S. market and to bill its customers for the drug directly. Wyeth is free to set the retail price at its discretion, which affords it the flexibility necessary to adapt its distribution strategy to the prevailing market conditions. In return, Wyeth is required to pay us a fixed percentage of its net sales, subject to a minimum price. Since July 2003, our own dedicated sales force for the U.S. market has been co-promoting Pantoprazole together with Wyeth in accordance with a separate co-promotion agreement entered into in April 2003. While this arrangement has afforded us a better understanding of the marketing of Pantoprazole in the United States, the revenues that we derive from this drug continue to materially depend on the resources that Wyeth devotes to its marketing. We currently use co-marketing partners for the distribution of Pantoprazole in many European countries, Latin America and Asia. In Australia and Canada, we distribute Pantoprazole in collaboration with a co-promotion partner.

      Going forward, we intend to use licensees primarily in markets that we do not consider a strategic focus or where we believe that the costs of building and maintaining the necessary infrastructure and expertise outweigh the benefits of having a sales and marketing organization of our own. In strategically important markets that offer a substantial growth potential for our pharmaceuticals business, especially the United States, our goal is to rely less on licensees and instead to use experienced local companies as co-marketing and co-promotion partners. We believe that this approach will enable us to gradually build our own sales forces in these markets and to reduce our dependence on partners. We have already entered into a co-promotion agreement with Aventis, now Sanofi-Aventis, for the distribution of the MDI and DPI versions of our drug Ciclesonide in the United States.

      At December 31, 2005, Wyeth, the U.S. company through which we distribute Pantoprazole in the United States, accounted for 2.5% of our accounts receivable, compared with 7.8% at December 31, 2004. In 2005 and 2004, Wyeth accounted for 11.4% and 14.2% of our net sales, respectively.

Competition

      For the most part, our pharmaceuticals division operates in markets characterized by intense competition. Our competitors include a wide variety of companies, ranging from small pharmaceuticals companies to large national and international pharmaceuticals groups and from off-patent manufacturers of generic pharmaceuticals to owners of preeminent brands.

      The global therapeutics markets are highly competitive and are targeted both by large companies and by small niche players. The main competitive factors include product efficacy and safety and distribution capabilities. In addition, price has become increasingly important almost everywhere in the world. Our main competitors for drugs in the gastrointestinal area are various other branded PPIs, including Takeda’s Lansoprazole and AstraZeneca’s Esomeprazole. If our competitors continue to invest heavily in marketing these drugs, the ability of Pantoprazole to capture market share or maintain its current market share could be adversely affected. In addition, Pantoprazole faces increasing competition from generic PPIs. A variety of companies, including Schwarz Pharma, Mylan, Novartis, TEVA and Torpharm, are marketing Omeprazole-based generics in Europe and the United States at prices that tend to be lower than the price of Pantoprazole

and other branded PPIs. Further competition may result from the launch of generic versions of PPI molecules other than Omeprazole once their respective patents expire and from OTC versions of PPIs in the United States and certain European countries, which, unlike Pantoprazole, are available to patients without a prescription. While generic and OTC versions of PPIs have so far had a limited impact on the market for branded PPIs, including Pantoprazole, in Europe, pricing pressure in the U.S. market has grown stronger as a result of an increase in the rebates provided by all market participants. See “Item 3: Key Information — Risk Factors — Risks Related to our Pharmaceuticals Business” for a discussion of the risks resulting from competition by other PPI brands, generic and OTC versions of Omeprazole-based PPIs and “— Products — Therapeutics” for more information on Pantoprazole. In the highly competitive respiratory market, we compete primarily with AstraZeneca, GlaxoSmithKline, Merck & Co. and Boehringer Ingelheim Pharma GmbH & Co. KG.

      In the OTC area, the key competitive factors are price and branding. The OTC market is highly fragmented, and we face competition not only from other pharmaceuticals companies but also from distributors of homeopathic remedies and medical accessories.

      The imaging markets are highly competitive. The key competitive factors include price (especially with respect to x-ray contrast media), product efficacy, safety, and sales and marketing capabilities. As far as new diagnosing techniques are concerned, technological innovation is also an important factor. Our competitors include Guerbet, Schering AG, Tyco Inc. and GE Healthcare, formerly Amersham plc.

Intellectual Property

      Intellectual property and especially patent protection are of critical importance to our pharmaceuticals business. At December 31, 2005, we held 118 U.S., 67 European and 23 Japanese patents for various pharmaceutical inventions. In addition, we have 116 patent applications pending at the U.S. Patent and Trademark Office, 189 at the European Patent Office and 173 in Japan. Our most important patents are those covering Pantoprazole, Ciclesonide and Roflumilast as well as the patents for which we have applied and which have been granted in connection with our various pipeline drugs.

      Pantoprazole enjoyed substance patent protection in Europe until June 2005 and, by virtue of an extension granted by the U.S. Patent and Trademark Office in July 2003, enjoys patent protection in the United States until July 2010 with a possible further extension of six months in the United States due to a pediatric indication. In addition, Pantoprazole benefits from SPCs, which have an effect similar to that of an extension of original patents, in the majority of European countries until the end of May 2009.

      In 2004, generic drug companies filed ANDAs with the FDA in the United States challenging our Pantoprazole substance patent with a view to manufacturing and distributing generic versions of Pantoprazole. In response to one of these challenges, we filed a patent infringement suit in May 2004 against TEVA and its parent company TEVA Pharmaceutical Industries, Ltd. in the U.S. District Court for the District of New Jersey. Several companies have also filed ANDAs challenging our Pantoprazole oral formulation patent. Because Pantoprazole enjoys protection in the United States under our substance patent until 2010 (and our oral formulation patent is therefore irrelevant for the time being), we have decided not to take any immediate action with regard to these ANDAs. However, in 2005, Sun Pharmaceuticals Advanced Research Centre (Limited) (“Sun”), one of the challengers of our Pantoprazole oral formulation patent, amended its ANDA to include a paragraph IV certification relating to our Pantoprazole substance patent and in addition filed an ANDA regarding our Pantoprazole IV formulation patent. As a result, we filed complaints against Sun in the U.S. Federal District Court for the District of New Jersey. In these complaints, we claim that Sun is infringing our substance patent, but consistent with our approach to the other attacks on our oral formulation patents, do not claim that our IV formulation patent has been infringed. While we believe that our U.S. patents relating to Pantoprazole are valid and enforceable and of sufficient scope and strength to prevent the entities that have made the filings and any other third party from manufacturing and distributing Pantoprazole-based generics at this time, there can be no assurance that we will be successful in defending our patents. For more information, see “— Pharmaceuticals — Intellectual Property” and “— Legal Proceedings”.

      Drug companies are required to include a certification in their ANDA filings when they intend to manufacture and distribute a generic version of a patent-protected drug listed in the Orange Book, which is a list of proprietary drugs together with pertinent patent information maintained by the FDA. Inclusion of a paragraph IV certification in an ANDA implies that the applicant is asserting that the patents listed in the Orange Book are either invalid or unenforceable or will not be infringed by the manufacture and distribution of a generic version of that drug. The applicant is required to notify the innovator company that it has filed an ANDA with the FDA, and must describe the reasons it believes the listed patents will not be infringed or are invalid or unenforceable. Once the innovator drug company has received notice that a generic application has been filed and its patent is being challenged, it may file a lawsuit claiming patent infringement based on its review of the generic drug company’s notice. If a lawsuit is brought within 45 days of receiving the applicant’s notice, the FDA’s approval is stayed for 30 months. The 30-month period starts at the later of five years after the approval of the drug or after receipt of the applicant’s notice. If the patent court determines that the patent is valid, enforceable and would be infringed by the product proposed in the ANDA, the FDA will not approve the application until the patent expires. If the court decides that the patent will not be infringed or is invalid or unenforceable, the FDA may approve the generic application when that decision occurs. The FDA may approve the application at the end of the 30-month period, even if the litigation is ongoing. A generic applicant who is the first to challenge a listed patent using a paragraph IV certification is granted a 180-day exclusivity period with respect to other generic applicants. This exclusivity period provides generic applicants with an incentive to challenge listed patent for innovative drug products.

      Other patents and pending patent applications that are material to our business include those set forth in the table below:

      We rely on intellectual property that we obtain through cross-licensing arrangements with third parties to develop, manufacture and market pharmaceuticals. For example, we have entered into licensing arrangements with Hoffmann-La Roche and Invitrogen to obtain access to technologies that we consider critical to the R&D projects carried out in our molecular diagnostics unit. If we are unable to obtain licenses on commercially reasonable terms in the future, we may be limited in our ability to develop, manufacture and market new products.

      We depend on our ability to obtain and, if challenged, successfully defend our patents, licenses, trademarks, trade secrets and other forms of intellectual property protection. Although we intend to continue to file and prosecute patent applications vigorously, we may not be able to obtain patents for all our inventions. In addition, the process of seeking patent protection is lengthy and expensive, and the issuance of a patent is conclusive neither of its validity nor of its scope. Therefore, there is no assurance that our currently pending or future patent applications will result in patents being granted or that, if patents are issued, they will be valid or of sufficient scope or strength to provide us with meaningful legal protection or a commercial advantage in the marketplace. In addition, if our competitors develop technologies that are

themselves protected by patents or other forms of intellectual property protection, the underlying technologies may be unavailable to us or available to us only on unfavorable terms.

      A significant part of our intellectual property consists of registered trademarks. We are continuously engaged in developing brand names for new products, securing trademark protection for our new brand names, policing our existing trademarks and enforcing our legal entitlements in situations where third parties infringe upon any of these rights. Before we start to advertise and sell a product under a new brand name, we seek to minimize the risks of infringing upon the trademark rights of others by filing for trademark protection and by conducting trade and service mark searches and other inquiries.

      As with other pharmaceuticals companies, a portion of our know-how is not patent-protected. To protect this information, we rely on trade secret law and frequently enter into confidentiality agreements with our employees, customers and partners. These agreements may be unenforceable, however, and the remedies that are available to us for breaches may be inadequate. Likewise, our competitors may gain access to our know-how by lawful means, for example, by reverse engineering, or may independently develop the same know-how, which may destroy any competitive edge that we may have.

      As a result of the key role that intellectual property plays in the pharmaceuticals industry, we may from time to time become involved in litigation as either plaintiff or defendant. There can be no assurance that we will be able to successfully settle or otherwise resolve claims that may be brought against us by third parties in the future. If we are unable to successfully settle future claims on terms acceptable to us, we may be required to engage in costly and time-consuming litigation and may be prevented from, or experience substantial delays in, marketing our existing pharmaceuticals and launching new ones. Each of these events could materially adversely affect our business, financial condition or results of operations or halt the sales of our existing products. For more information concerning the types of litigation that we face in our business, see “— Legal Proceedings” and “Item 3: Key Information — Risk Factors — Risks Related to each of our Businesses”.

Regulation

      All companies developing, manufacturing and marketing pharmaceuticals are subject to extensive, complex and evolving regulations in the United States, Europe and Japan. We are working within the framework of the International Conference on Harmonisation of Technical Requirements for Registration of Pharmaceuticals for Human Use (“ICH”) guidelines. The ICH is a collaborative effort among regulators in Europe, Japan and the United States and experts from the pharmaceuticals industry in the three regions with the goal of streamlining the development and regulatory approval of medicinal products by harmonizing the applicable procedures. Our compliance with the ICH guidelines assists us in obtaining regulatory approval for our drug candidates in as many jurisdictions as possible.

Overview of clinical trial process

      Preclinical tests encompass the laboratory evaluation of a new pharmaceutical, its chemistry, formulation and stability, as well as animal studies to assess its potential safety and efficacy. Following the conclusion of preclinical tests, the results of these studies, which have to demonstrate that the pharmaceutical delivers sufficient quantities of the drug to the bloodstream to create the desired therapeutic results, are submitted to the relevant regulatory authority, which must approve before human clinical trials may begin.

      Human clinical trials are typically conducted in three sequential phases:

United States

      The principal U.S. regulators relevant to the business of our pharmaceuticals division are the U.S. Food and Drug Administration (“FDA”) and to a lesser extent the U.S. Drug Enforcement Agency (“DEA”) and state government agencies. The Federal Food, Drug and Cosmetic Act, the Controlled Substances Act and other federal statutes and regulations all govern or influence the development, testing, manufacture, packaging, labeling, storage, record keeping, safety, approval, advertising, promotion, marketing, sale and distribution of our pharmaceuticals.

      FDA approval is required before any dosage form of any new pharmaceutical, including any off-patent equivalent of a previously approved pharmaceutical, may be marketed. The process for obtaining governmental approval to market pharmaceuticals in the United States is rigorous, time-consuming and costly, and it is difficult to predict the extent to which this process may be affected by legislative and regulatory developments. Like all pharmaceuticals companies, we are dependent on receiving FDA and other types of governmental approvals prior to producing and marketing virtually all of our new pharmaceuticals in the United States. Consequently, there is always a chance that the FDA or another agency will not approve our new pharmaceuticals, or that the rate, timing and cost of such approvals will adversely affect our launch plans and ultimately our results of operations. See “Item 3: Key Information — Risk Factors — Risks Related to our Pharmaceuticals Business” for a discussion of these risks.

      All applications for FDA approval are required to contain information relating to formulation, raw materials, stability, manufacturing, packaging, labeling and quality control. There are three types of applications for FDA approval:

      The process mandated by the FDA before a previously unapproved pharmaceutical may be marketed in the United States essentially involves the following steps:

      An IND automatically becomes effective 30 days after receipt by the FDA unless the FDA, during that 30-day period, raises concerns or questions about the conduct of the trials as outlined in the IND. In such cases, the IND sponsor and the FDA must resolve any outstanding concerns before clinical trials can begin. In addition, an independent Institutional Review Board at the medical center that proposes to conduct the clinical trials must review and approve any clinical study before it commences. Following completion of Phase I, Phase II and Phase III clinical trials, the results of the internal development processes and the mandatory preclinical and clinical studies along with documentation evidencing compliance with applicable Chemistry, Manufacturing and Controls (“CMC”) requirements as part of an NDA are submitted to the FDA. The drug development and NDA approval process averages approximately eight to twelve years.

      FDA approval of an ANDA is required before a generic equivalent of a drug that previously has been approved under an NDA or a previously unapproved dosage form of a drug that has been approved under an NDA may be marketed. The ANDA approval process differs from the NDA approval process in that it does not require new preclinical and clinical studies; instead, it relies on the clinical studies establishing safety and efficacy conducted for the previously approved drug. The ANDA process, however, requires the generation of data that show that the ANDA drug is bioequivalent (i.e., therapeutically equivalent) to the previously approved drug. “Bioequivalence” compares the bioavailability of one drug with another and, if established, indicates that the rate and extent of absorption of an off-patent drug in the body are substantially equivalent to the previously approved drug. “Bioavailability” establishes the rate and extent of absorption, as determined by the time-dependent concentrations of a drug in the bloodstream needed to produce a therapeutic effect. Supplemental NDAs or ANDAs are required for, among other things, approval to transfer products from one development site to another. Such applications may be under review by the FDA for a year or more. In addition, certain drugs may be approved for transfer only once new bioequivalence studies have been conducted or certain other requirements have been satisfied.

      To obtain FDA approval of both NDAs and ANDAs, a pharmaceuticals company’s procedures and operations must conform to FDA quality system and control requirements generally referred to as current Good Manufacturing Practices (“cGMP”), as defined in Title 21 of the U.S. Code of Federal Regulations. These regulations cover all aspects of the development, manufacturing and marketing process from receipt and qualification of components to distribution procedures for finished products. Since they are evolving standards, we have to continue to expend time, money and effort in all production and quality control areas to maintain compliance. The evolving and complex nature of regulatory requirements, the broad authority and discretion of the FDA, and the high level of regulatory oversight results in the continuing possibility that we may be adversely affected by regulatory actions despite our efforts to maintain compliance with the applicable regulatory requirements. See “Item 3: Key Information — Risk Factors — Risks Related to our Pharmaceuticals Business” for a discussion of these risks.

      In addition, we are subject to periodic inspections of our facilities, procedures and operations and/or the testing of our pharmaceuticals by the FDA, the DEA and certain other authorities that conduct periodic inspections to assess our compliance with applicable regulations. The FDA also conducts pre-approval and post-approval reviews and plant inspections in connection with its review of our applications for new products to determine whether our systems and processes comply with GMP and other applicable FDA regulations. If the FDA determines that deficiencies have occurred at any of our facilities, it may, among other things, withhold approval of any NDAs, ANDAs or other applications that we have submitted. Our vendors that provide us with finished products or components used to manufacture, package and label pharmaceuticals are subject to similar regulations and periodic inspections. Following its inspections, the FDA may issue notices on Form 483 and Warning Letters that may cause us to modify certain activities identified during the inspection. A Form 483 notice (“inspectional observations”) is typically issued at the conclusion of an FDA

inspection and lists conditions that the FDA investigators believe may violate cGMP or good clinical practice (“GCP”) or other FDA regulations. FDA guidelines specify that a Warning Letter be issued only for violations of “regulatory significance” for which the failure to adequately and promptly achieve correction may be expected to result in an enforcement action.

      Failure to comply with FDA and other governmental regulations may result in fines, unanticipated compliance expenditures, recall or seizure of pharmaceuticals, total or partial suspension of production and/or distribution, suspension of the FDA’s review of NDAs, ANDAs or other applications, enforcement actions, injunctions and criminal prosecution. Under certain circumstances, the FDA also has the authority to revoke previously granted approvals. Although we have internal compliance programs, if these programs do not meet the applicable standards or if our compliance is deemed deficient in any significant way, our business may be materially adversely affected. See “Item 3: Key Information — Risk Factors — Risks Related to our Pharmaceuticals Business” for a further discussion of risks in connection with FDA regulations.

      The Generic Drug Enforcement Act of 1992 established penalties for wrongdoing in connection with the development or submission of ANDAs. Under this act, the FDA has the authority to permanently or temporarily bar companies or individuals from submitting or assisting in the submission of ANDAs and to temporarily deny approval and suspend applications to market off-patent drugs. The FDA may also suspend the distribution of all drugs approved or developed in connection with certain wrongful conduct and/or withdraw approval of ANDAs and seek civil penalties. The FDA may also significantly delay the approval of any pending NDA, ANDA or other regulatory applications under the Fraud, Untrue Statements of Material Facts, Bribery and Illegal Gratuities Policy Act.

      In recent years, there has been enhanced political attention and governmental scrutiny at the federal and state levels of the prices paid or reimbursed for pharmaceuticals under Medicaid, Medicare and similar programs. The U.S. Federal Trade Commission (“FTC”) has announced its intention to conduct a study of whether brand-name and generic drug providers have entered into agreements, or have used other strategies, to delay competition from generic versions of patent-protected drugs. The FTC’s announcement could affect the manner in which generic drug providers resolve intellectual property litigation with branded pharmaceuticals companies, and may result in an increase in private-party litigation against pharmaceuticals companies. See “Item 3: Key Information — Risk Factors — Risks Related to our Pharmaceuticals Business” for a discussion of government regulation in connection with third-party reimbursement programs.

European Union

      Much of what has been said with respect to the approval process applicable to new drugs in the United States also applies to the European Union. In the European Union, however, several different procedures are available: a centralized approval procedure, a Mutual Recognition Procedure (“MRP”), a Decentralized Procedure (“DCP”) and the common national procedures. The London-based European Medicines Agency (“EMEA”) governs the centralized drug registration and approval process. The respective scientific committees, the committee for medicinal products for human use (“CHMP”) and the committee for veterinary medicinal products (“CVMP”), make recommendations based on reviews by appointed rapporteurs and co-rapporteurs, who are part of the CHMP/CVMP. Following the committee’s recommendation, the European Commission issues a formal decision, which is valid throughout the entire European Union. Upon completion of the approval process, the drug may be marketed within all member states. An alternative procedure is the MRP. Pursuant to this procedure, one Reference Member State (“RMS”) carries out the primary evaluation. The other Concerned Member States (“CMS”) then have 90 days to decide whether they accept or reject the decision made by the RMS. If a member state does not follow the decision of the reference country, then the issue is referred to the CHMP for arbitration. Based on the CHMP’s determination, a formal decision is made by the European Commission. The new DCP is in effect since the end of 2005 and operates similarly to the MRP. It will be used mainly where an authorization does not yet exist in any of the member states. The CMS are involved at an earlier stage of the evaluation than under the MRP in an effort to minimize disagreements and to facilitate the application for marketing authorization in as many markets as possible. Generics of medicinal products authorized through the centralized procedure will have the option of applying through either the centralized procedure or the DCP or MRP.

Japan

      In Japan, two issues make the approval process difficult for drugs developed outside of that country. First, the Japanese approval agency recognizes only a limited number of the documents used in registration procedures in other countries. Second, the Japanese approval agency requires that tests to determine appropriate dosages for Japanese patients be conducted on Japanese subjects and patients. As a result of these issues, parts of Phase II and Phase III clinical trials carried out in the United States or Europe typically need to be repeated in Japan. These regulatory requirements may cause delays of two to three years in introducing drugs developed outside of Japan to the Japanese market.

Chemicals

Overview

      We develop, manufacture and market a wide range of specialty chemicals targeted at selected markets. Specialty chemicals are high value-added products used in the manufacture of a wide array of applications. Compared with commodity chemicals, specialty chemicals are typically produced in smaller volumes. We offer our specialty chemicals together with support and comprehensive customer service regarding the use of our products and their adaptation to the specific manufacturing requirements of individual customers. The highly application-specific nature of specialty chemicals impedes product substitution, which fosters close relationships between suppliers and customers.

      In 2005, our chemicals division generated net sales of €  907 million, an increase of 6.2% compared with 2004. The chart below provides a breakdown of our chemicals net sales by geographic region for the three years ended December 31, 2005:

Chemicals Net Sales by Geographic Region

      In 2005, our chemicals net sales increased in all regions due to increased demand and the net effect of acquisitions and dispositions, with the exception of Europe (excluding Germany), where our net sales declined due primarily to various dispositions. As a result of the international dimension of our business, our results of operations are materially affected by exchange rate fluctuations in any given period, especially by changes in the exchange rate between the euro, on the one hand, and the U.S. dollar, Chinese renminbi yuan and the Japanese yen, on the other hand. See “Item 3: Key Information — Risk Factors — Risks Related to each of our Businesses” and “Item 11: Quantitative and Qualitative Disclosure about Market Risk” for more information on our exchange rate exposure.

      Our chemicals division comprises four business areas:

      Our chemicals division has grown steadily over the past several years both organically and as a result of strategic acquisitions. We expect to continue to rely on a combination of organic growth and acquisitions for the expansion of our operations in the future. In identifying suitable targets for acquisitions, we seek majority interests in companies that present a clear strategic fit, have potential for net income contribution and whose management is both experienced and competent.

      The chart below provides a breakdown of our chemicals net sales by business area for the three years ended December 31, 2005:

Chemicals Net Sales by Business Area

      Because chemicals are used in a variety of industries, manufacturers of specialty chemical products are typically affected by the business cycles experienced by the industries that they serve. By targeting selected markets in complementary industries all over the world, we seek to diversify our risk and reduce our exposure to these cycles.

Products

Additives & Instruments

      We provide a wide range of innovative, high-quality additives and related measuring and testing instruments. In 2005, net sales generated by our Additives & Instruments business totaled €  364 million.

      We offer a comprehensive portfolio of paint additives, plastic additives and wax additives, which we develop for the specific requirements of our customers in the coatings, plastics and printing ink industries and which we market under our global brand BYK-Chemie. Additives are substances that have essentially two applications: first, they facilitate manufacturing processes, for example, by reducing viscosities and shortening processing times, and second, they substantially improve the quality of products, especially their mechanical properties and appearance. Because additives can achieve effects that otherwise would not be possible, additives have become an integral and indispensable part of modern paint and plastics formulations. Due to their high effectiveness, they are usually applied in small dosages.

      Our additives portfolio comprises wetting and dispersing additives for pigments and fillers, additives to improve surface properties, defoamers and air release agents, rheological additives, wax emulsions, dispersions and micronized waxes. Our additives are used in a variety of downstream applications, such as architectural and industrial coatings, automotive finishes, wood, can and coil coatings, printing inks, vinyl floorings, polyester, epoxy or acrylic resin systems and polishes.

      As a complement to our additives portfolio, we also offer measuring and testing instruments that may be used to measure the surface characteristics of plastics and paints, including their color and gloss attributes. We market our instruments under our global brand BYK-Gardner. By enabling our customers to adjust their selection and dosage of additives based on the surface characteristics of the raw materials that they use, our instruments portfolio naturally complements our additives offering. We believe that our ability to offer complete solutions consisting of additives and instruments affords us a competitive edge.

      We manage our additives business from the headquarters of our chemicals division, which are located in Wesel, Germany, and which are responsible for our worldwide R&D, manufacturing and marketing efforts. In contrast, sales and customer service are the responsibility of our local operating companies, which operate in proximity to our customers. We believe that this dual approach enables us to achieve operational synergies, while staying in touch with our customers.

      Our Additives & Instruments business has expanded continuously over the past several years, almost entirely as a result of organic growth.

Effect Pigments

      In our Effect Pigments business we offer metallic effect pigments, pearlescent pigments and metallic printing inks. Our Effect Pigments business comprises the activities of the ECKART Group, which we acquired in October 2005. Net sales generated by our Effect Pigments business in the three-month period following the completion of the acquisition totaled €  75 million. Effect pigments are widely used to provide paints and varnishes producing different, mainly visual, effects. Our products are used in coatings, graphic arts, plastics, cosmetics and various other technical applications. Important application areas are the automotive sector and other industrial areas. Metallic pigments consist of small aluminum, copper or zinc particles which lead to a certain surface gloss. Pearlescent pigments, which are based on minerals, are semitransparent and are characterized by a deep gloss similar to the gloss of real pearls.

      We intend to expand our Effect Pigments business mainly by targeting markets outside Germany, the development of new innovative products and, to a lesser degree, the acquisition of selected targets.

      Our Effect Pigments business is headquartered in Fuerth, Germany.

Electrical Insulation

      In our Electrical Insulation business, we offer a comprehensive range of wire enamels, impregnating resins, coatings and other compounds used for electrical insulation in a variety of applications. All of the products in our Electrical Insulation portfolio are formulated to fulfill various performance requirements in addition to electrical insulation, such as mechanical and chemical resistance and thermal endurance even under severe operating conditions. Our Electrical Insulation portfolio comprises:

      In 2005, our Electrical Insulation business generated net sales of €  293 million. In January 2006, we agreed with INVEX S.p.A., Italy, to buy its captive production of resins for insulating magnetwire in Cerquilho, Brazil in order to further extend our global coverage of this sector. We intend to expand the production capacity of the plant and to integrate our existing South American insulation business, which is currently operated by a licensee.

Coatings & Sealants

      In the area of Coatings & Sealants, we offer coatings as well as compounds and sealants. In 2005, our Coatings & Sealants business generated net sales of €  175 million. Our coatings are used, among other things, to coat steel and aluminum sheets, plastic, paper and board. An important downstream application of our coatings portfolio are packaging materials that are used in the food industry, including cans, drums, tubes and closures as well as aluminum, plastic and paper foils for flexible packaging. Our compounds and sealants portfolio comprises sealing compounds for use in beverage cans and metal as well as plastic closures and jar lids.

      We believe that we offer a comprehensive portfolio of coatings and sealants. This is especially true of packaging applications, for which we are able to provide our customers with complete solutions. Our position in the coatings market is particularly strong in Europe. In the area of closure compounds and can sealants, we consider ourselves to be among the leading providers worldwide. Our declared goal is to be the best in class with respect to every type of product that we offer and every market that we are active in.

      In the first quarter of 2005, we sold our Austrian subsidiary Rembrandtin Lack Ges.m.b.H. In October 2005, we acquired Kelstar International, a leading U.S. producer of water-based and UV curable overprint coatings for the paper and board packaging sector. In January 2006, we signed an agreement to acquire Rad-Cure Corp., a company specializing in the fields of overprint UV curable coatings and adhesives for the paper and board packaging sector. These transactions reflect our strategic decision to realign our Coatings & Sealants business by reducing our activities in the industrial coatings sector and concentrating on high-potential niches of the specialty chemicals markets, such as chemical solutions for flexible packaging. As with Electrical Insulation, our growth strategy in our Coatings & Sealants division includes the expansion and strengthening of our market position by making selected acquisitions.

Research and Development

      We consider the development of innovative specialty chemicals that are capable of satisfying our customers’ needs a key prerequisite for the success of our business. The overarching goal of our R&D efforts is to create customized solutions that add value to our customers’ manufacturing processes and the products that they market. In doing so, we seek to distinguish ourselves from our competitors in terms of quality and

innovation. In order to be in a position to employ state-of-the-art technology in all aspects of our dealings with customers, we supplement our development processes with basic research in selected areas.

      In our Additives & Instruments business, we manage most aspects of our R&D efforts on a centralized basis. Virtually all research related to additives is carried out at the headquarters of our chemicals division, which are located in Wesel, Germany. While we also maintain laboratories for these products in close proximity to our customers in all major markets, none of them is engaged in research activities. Instead, the function of these laboratories is to provide our customers with technical assistance and to solve their problems on-site. In our Effect Pigments business we maintain large R&D facilities in Güntersthal, Germany. Further R&D activities are carried out in the United States and Switzerland. In our Electrical Insulation business, we carry out basic research projects at our facilities in Hamburg, Germany, particularly in the area of wire enamels. In addition, we maintain R&D laboratories at selected local manufacturing sites. These laboratories develop and produce region-specific formulations in close contact with our customers and provide them with technical service and support. In our Coatings & Sealants business, we manage our entire R&D process on a decentralized basis, with our R&D laboratories being located at our local plants. To avoid overlaps and redundancies, our management promotes close collaboration and the mutual exchange of information between R&D facilities within each of our business areas.

      As far as new technologies are concerned, such as UV-curing and nano technologies, which we expect to play an increasingly important role in the specialty chemicals industry, each of our business areas conducts its own R&D efforts. Because the value of new technologies to our business is highly application-specific, our management considers this approach preferable to concentrating all R&D in one location. To ensure that know-how built up in one business area becomes available to other business areas, we actively manage cooperation between our various R&D facilities involved in similar technology projects.

      As of December 31, 2005, 597 people worldwide – 13.6% of the workforce of our chemicals division – were employed in our laboratories. Our R&D expenditures in this division totaled €  47 million in 2005, representing 5.1% of total sales.

Supplies and Raw Materials

      We purchase our supplies and raw materials from third parties and typically seek to diversify our sources so as to minimize the risk of supply chain outages. We do not believe that the loss of any one of our providers would have a material adverse effect on our business. In addition, we believe that alternative sources for all supplies and raw materials that we need in our business would be readily available to us without undue expense and delay. We have not experienced significant difficulties in obtaining supplies and raw materials of sufficient amounts and quality in recent years, and we do not expect to encounter such difficulties in the foreseeable future.

      Like other companies in the chemicals industry, we are exposed to raw material price increases. While historically we have mostly been able to pass such increases on to our customers, our ability to pass raw material price increases on to our customers is generally subject to a time lag. This situation has created pressure on our margins. To reduce this pressure, we attempt to secure important raw materials by entering into long-term contracts and continuously monitor our raw material prices on a centralized basis. In addition, we limit our exposure to high raw material prices by substituting cheaper raw materials for more expensive ones.

Production

      Our production strategy is to minimize costs by streamlining our manufacturing processes and by creating facilities that specialize in discrete product groups, thereby achieving economies of scale and scope. In implementing this strategy, we focus on capacity and process improvements with respect to our existing facilities. To the extent necessary, we also construct new facilities. As a rule, we seek to promote close collaboration between our production facilities and our sales and service organizations so as to be able to adapt our manufacturing processes according to our customers’ needs. We consider this approach especially important in the areas of Coatings & Sealants and Electrical Insulation. The manufacturing activities of our

Additives & Instruments and Effect Pigments businesses are largely centralized at the main production facilities of these businesses, which are located at the respective headquarters.

      We own substantially all of our manufacturing facilities and substantially all of the land on which they are located. Our most important production facilities in the chemicals division are located in Wesel, Germany, where we manufacture the majority of the products of our additives business and Güntersthal, Germany, where most of our Effect Pigments products are manufactured. We lease our facilities in Collecchio, Italy, and Fort Wayne, Indiana.

      The following table shows selected key information with respect to our current manufacturing facilities as well as our facilities under construction:

Production Facilities

Customers, Sales and Marketing

      We sell our specialty chemical products in more than 100 countries worldwide. Our customer focus and our commitment to quality and service have enabled us to achieve leading market positions. We seek to maintain close links between our manufacturing facilities and our sales and marketing organization in order to be able to respond quickly to our customers’ changing needs. In addition, this approach enables us to ship products directly from our manufacturing facilities to our customers, which reduces both our and their inventories.

      Each of the specialty chemicals business areas has its own centralized management, which coordinates the business area’s sales and marketing strategy and which is responsible for dealing with its key customers. The actual sales and marketing, however, is carried out at the local level by our operating companies. In addition, to the extent that we do not serve a particular market through our own local organization, it is carried out either by way of direct sales made by us or through external agents, whom we remunerate on a commission basis.

      Our main customers in the area of Additives & Instruments are in the paint and plastics industry. We offer our Additives & Instruments portfolio worldwide under our global brands BYK-Chemie and BYK-Gardner. Our marketing efforts are coordinated by our headquarters in Wesel, Germany, and are supported by our global sales and marketing organization, which consists of marketing companies in the United States, Singapore and Japan and sales offices in Korea and China. In those areas of the world where it does not make sense for us to maintain sales and marketing organizations of our own, we rely on distributors with whom we have long-term relationships and whom we typically remunerate on a commission basis. We do not depend on any one of our distributors, and none accounts for a material portion of our revenues. In addition, we employ technical consultants who provide technical advice and service to our customers in all major markets.

      We market our Effect Pigments to customers in the paint, graphic arts, plastics and cosmetics industries. Many of our Effect Pigments customers are also customers of our Additives & Instruments business. We intend to maintain ECKART as an established brand in its markets.

      The principal customers of our Electrical Insulation business are large manufacturers of magnet wires and various producers of electrical and electronic components. Because electrical and electronic devices are used in a wide variety of applications of everyday life, our customer base for impregnating resins and compounds is large and diverse. As far as Electrical Insulation is concerned, we use our own sales operations in all major markets worldwide.

      In the area of Coatings & Sealants, our customers comprise a small number of globally operating companies in the packaging and certain other industries. For sales and marketing purposes, we rely on our own organizations in Germany, most other major European markets, the United States and China.

Competition

      Because specialty chemicals are frequently critical components of the manufacturing processes or end products in which they are used, they are typically offered together with support and customer service regarding their use and adaptation to the manufacturing requirements of individual customers. Therefore, the key competitive factors in all our business areas are the ability to respond to customers’ needs and the commitment to constantly introducing new products and providing consistent quality and service.

      The specialty chemicals industry is a highly fragmented industry, and there is no company that competes with us across all our business areas. The following table provides an overview of our principal competitors by business area:

Competitors

Regulation

      The development, manufacture and marketing of chemical substances is regulated by national and international laws. Almost every country has its own legal procedures for manufacturing, registration and import. Of all countries, the laws and regulations of the European Union, the United States, China and Japan, however, are those which are most significant to our business. These regulations include the European inventory of existing commercial chemical substances, the European list of notified chemical substances, the United States Toxic Substances Control Act and the chemicals list of the Japanese Ministry of Trade and Industry. Chemicals that are contained in one or more of these lists can usually be registered and imported without additional testing into any other country, although additional administrative requirements may exist.

      In December 2005, the European Council of Ministers agreed upon a new EU regulatory framework for chemicals. Under the agreed new system called REACH (Registration, Evaluation and Authorization of CHemicals), which aims to improve the protection of human health and the environment by providing more safety information on chemical substances, enterprises that manufacture or import more than one metric tonne of a chemical substance per year would be required to register it in a central database. Nevertheless, the agreement of the European Council of Ministers is not equivalent to the adoption of a final regulation. Adoption of a final regulation is subject to co-decision rights by the European Parliament and is currently not expected prior to the end of 2006. While we are currently unable to assess the full impact of this proposed new system on our business, we expect that it will very likely require the deployment of additional resources and thus result in increased costs, which could have a negative impact on our results of operations.

Employees

      See “Item 6: Directors, Senior Management and Employees — Employees” for information on our employees.

Environmental Matters

      Our operations are subject to a number of environmental laws and regulations in each of the jurisdictions in which we operate governing, among other things, air emissions, wastewater discharges, the use, handling and disposal of hazardous substances and wastes, soil and groundwater contamination, as well as employee health and safety. Environmental compliance obligations and liability risks are inherent in many of our manufacturing activities. In the United States, certain environmental remediation laws, such as the federal

“Superfund” law, can impose joint and several liability for site cleanup, regardless of fault, upon certain statutory categories of parties, including companies that sent waste to a site. We are subject to potential liability at a number of owned and third party sites in the United States.

      We believe that our operations are currently in material compliance with all applicable environmental laws and regulations. In many jurisdictions, environmental requirements may be expected to become more stringent in the future, which could affect our ability to obtain or maintain necessary authorizations and approvals and result in increased environmental compliance costs.

      While our management does not believe that environmental compliance or remedial requirements are likely to have a material effect on us, there is no assurance that future material environmental compliance or remedial obligations will not arise in connection with our operations or facilities or that such obligations will not have a material adverse effect on our business, financial condition or results of operations.

      We have established and continue to establish accruals for environmental remediation liabilities where the amount of such liability can be reasonably estimated. As a rule, investigations into potential contamination and subsequent cleanup are required only when a site is closed and the existing production facilities dismantled. Accordingly, it is not possible to reasonably estimate the ultimate liability for investigation and cleanup at sites that are still in operation. Likewise, given the uncertainty inherent in such estimates, any accruals that we have established may be subject to change.

Organizational Structure

      We have subsidiaries that operate in a number of countries throughout the world. The following table provides information as of December 31, 2005, with respect to our current significant subsidiaries:

Significant Subsidiaries

Property, Plants and Equipment

      We own approximately 3.4 million square meters of property at our production, distribution and administrative facilities around the world and nearly all of the land that they occupy. See “Pharmaceuticals — Production” and “Chemicals — Production” for more information on our production facilities. Virtually all of our facilities are either owned by us or available to us under long-term leases. We believe that our current facilities and those of our consolidated subsidiaries are in good condition and adequate to meet the requirements of our present and foreseeable future operations.

Legal Proceedings

      As is the case with many companies in the pharmaceuticals and specialty chemicals industries, we are and may from time to time become a party to claims and lawsuits incidental to the ordinary course of our business. We are not currently involved in any legal or arbitration proceedings that we expect to have a material adverse effect on our financial position, and, to our knowledge, no such legal or arbitration proceedings are currently threatened.

      In 1988, we held 91% of Deutsch-Atlantische Telegraphen AG (“DAT”). In connection with the execution of a profit transfer and control agreement with DAT, which provided that all of DAT’s profits and losses had to be transferred to us, we made, based on a valuation of DAT, a mandatory exchange offer to the minority shareholders offering them 1.3 shares of our company for each DAT share held by them. After protracted litigation, the German Federal Supreme Court (Bundesgerichtshof) decided that the exchange ratio

had to be based on the average share price during the three months preceding the shareholders’ meeting that approved the profit transfer and control agreement. The case was subsequently remanded. Based on the final decision of the appellate court of Dusseldorf (Oberlandesgericht Düsseldorf) rendered in 2003, our total liability amounted to € 19.3 million to be settled in cash and shares. At December 31, 2005, we recorded the outstanding obligation in an amount of €  8.2 million under other liabilities.

      In 2004, generic drug companies filed ANDAs with the FDA in the United States challenging our Pantoprazole substance patent with a view to manufacturing and distributing generic versions of Pantoprazole. In response to one of these challenges, we filed a patent infringement suit in May 2004 against TEVA and its parent company TEVA Pharmaceutical Industries, Ltd. in the U.S. District Court for the District of New Jersey. Several companies have also filed ANDAs challenging our Pantoprazole oral formulation patent. Because Pantoprazole enjoys protection in the United States under our substance patent until 2010 (and our oral formulation patent is therefore irrelevant for the time being), we have decided not to take any immediate action with regard to these ANDAs. However, in 2005, Sun, one of the challengers of our Pantoprazole oral formulation patent, amended its ANDA to include a paragraph IV certification relating to our Pantoprazole substance patent and in addition filed an ANDA regarding our Pantoprazole IV formulation patent. As a result, we filed complaints against Sun in the U.S. Federal District Court for the District of New Jersey. In these complaints, we claim that Sun is infringing our substance patent, but consistent with our approach to the other oral formulation attacks, do not claim that our IV formulation patent has been infringed. While we believe that our U.S. patents relating to Pantoprazole are valid and enforceable and of sufficient scope and strength to prevent the entities that have made the filings and any other third party from manufacturing and distributing Pantoprazole-based generics at this time, there can be no assurance that we will be successful in defending our patents.

ITEM 4A: UNRESOLVED STAFF COMMENTS

      None.

ITEM 5: OPERATING AND FINANCIAL REVIEW AND PROSPECTS

      The following discussion includes forward-looking statements based on assumptions about our future business. Our actual results could differ materially from those contained in the forward-looking statements.

      You should read the following discussion of our financial condition and results of operations in conjunction with our consolidated financial statements, including the related notes, and the other financial information that we have included elsewhere in this annual report. For our consolidated financial statements as of and for the three years ended December 31, 2005, see the discussion beginning on page F-1. We have prepared our consolidated financial statements in accordance with IFRS, which differ in certain significant respects from U.S. GAAP. For a description of the significant differences between IFRS and U.S. GAAP and a reconciliation of net income and shareholders’ equity to U.S. GAAP, see Notes 32 and 33 to our consolidated financial statements.

Overview

      We are a globally operating company that develops, manufactures and markets innovative pharmaceutical and specialty chemical products for a range of targeted, highly specialized applications. In each of the last five years, we were able to significantly increase our revenues and operating income, although the growth rate has flattened in recent years. Much of this development has been driven by Pantoprazole. The following table indicates the growth of our business in recent years in terms of our net sales and our operating income for each of the last five years:

      The following discussion highlights the main factors driving the revenues and results of operations of each of our two segments from 2003 to 2005.

Pharmaceuticals

      The net sales of our pharmaceuticals segment rose by 19.5%, from € 1,980 million in 2003 to € 2,109 million in 2004 and € 2,365 million in 2005. During the same period, the segment’s operating income grew by 19.9%, from € 504 million in 2003 to € 523 million in 2004 and €  604 million in 2005. The results of operations of our pharmaceuticals segment are driven by:

Chemicals

      The net sales of our chemicals segment increased by 20.1% from € 755 million in 2003 to € 854 million in 2004 and € 907 million in 2005. Over the same period, its operating income rose by 25.8% from € 90 million in 2003 to € 118 million in 2004 and declined slightly to €  113 million in 2005. The results of operations of our chemicals segment are driven by:

      Each of our two segments’ results of operations have been and continue to be materially influenced by exchange rate movements. At the group level, our results are influenced by, in particular, exchange rate fluctuations between the euro and each of the U.S. dollar, the Japanese yen, the Chinese renminbi yuan and major Latin American currencies such as the Mexican peso and the Brazilian real. For example, in 2005, net sales of our pharmaceuticals segment were increased by two percentage points due to the favorable exchange rate movements of the euro vis-à-vis Latin American currencies, particularly the Brazilian real, and the Canadian dollar. With respect to our chemicals segment, exchange rate fluctuations had no material net effect on our net sales in 2005.

      In addition, the revenues of each of our two segments in any given period may be influenced by acquisitions and dispositions made by that segment during that period. This is particularly true of our chemicals segment, whose growth strategy contemplates the acquisition of suitable targets. For example, in October 2005 we acquired ECKART GmbH & Co. KG (the “ECKART Group”) and Kelstar International Inc. (“Kelstar International”), which together contributed € 84 million to our net sales in 2005. In addition to acquiring suitable targets, we dispose of selected parts of our portfolio which do not constitute a part of our core business. For example, in the first quarter of 2005, we sold our Austrian subsidiary Rembrandtin Lack Ges.m.b.H., which contributed €  33 million to our net sales in 2004.

      To promote comparability across reporting periods, the following discussion of our results of operations breaks out acquisition, disposition and currency effects.

      We present segment information in accordance with IAS 14. The basis for our segment reporting is our two divisions: pharmaceuticals and chemicals. This reporting system reflects the management structure of our organization, pursuant to which our holding company is responsible for making strategic decisions with respect to our two divisions, whereas the implementation of these decisions at the division level is the responsibility of the heads of the respective divisions, who manage them on a day-to-day basis. The reporting system also reflects our internal financial reporting and the predominant sources of risks and returns in our business. During the periods under review, there have not been significant sales between our pharmaceuticals segment and our chemicals segment.

Critical Accounting Policies

Revenue Recognition

      As described in Notes 2 and 32 to our consolidated financial statements, we recognize revenue if the revenue can be reliably measured, it is probable that we will realize the economic benefits of the underlying transaction, and all costs to be incurred in connection with the transaction can be reliably measured. Accordingly, we recognize revenue in connection with the sale of a product at the moment the product is shipped and title passes to the customer.

      We make provisions for discounts, allowances, rebates, chargebacks and product returns by customers in the same period in which we recognize the related revenue. Such provisions primarily relate to potential revenue reductions in our pharmaceuticals business as a result of:

      Reductions of gross revenues for our pharmaceuticals business amounted to € 211 million in 2004 and € 220 million in 2005. There have been no material changes in estimates for prior year revenue reductions included in these amounts. Additionally, we offer volume based rebates and cash discounts to customers in our chemicals segment. Revenue reductions related to the chemicals segment were € 10 million in 2004 and € 11 million in 2005. Accrued liabilities for these reductions amounted to € 60 million for 2004 and €  65 million for 2005.

      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 non-refundable upfront payments received under these agreements as deferred revenue and recognize them in income over the estimated performance period stipulated in the agreement. An example of such a licensing agreement is our contract with Wyeth to distribute Pantoprazole in the United States. See “Item 10: Additional Information — Material Contracts” for more information on this contract.

      Currently, Wyeth is our single largest customer. Under our agreement with Wyeth related to the distribution of Pantoprazole, we have granted Wyeth an exclusive license to sell Pantoprazole-based products in the U.S. market. Under the agreement, Wyeth pays us a specified percentage of its Pantoprazole-related net sales, subject to a minimum price. Because our net sales from this arrangement are directly dependent on the price that Wyeth charges to the final consumer, our revenue from products that we have delivered to Wyeth but that have not yet been sold to the final consumer as of the balance sheet date are accounted for at the minimum price. We use what we believe is a reasonable system for estimating the number of unsold products held by Wyeth as of each relevant balance sheet date. The difference between the minimum price and the price invoiced by us to Wyeth is treated as deferred income until such time as the product is actually sold to the final consumer. Additionally, under this licence agreement we ship semi finished-products to Wyeth, who then completes the manufacturing process and sells the finished products to the final consumer. Under the terms of the contract, any yield adjustment resulting from the completion of the manufacturing process by Wyeth results in an adjustment, or allowance, to the original price.

      We also generate revenues from our collaborative research and development arrangements. Examples of such arrangements include our agreement with Aventis, now Sanofi-Aventis, with respect to the co-development of Ciclesonide, which we have started to market in 17 European markets under the brand name of Alvesco^®. See “Item 4: Information on the Company — Pharmaceuticals — Research and Development” for more information on these arrangements. We enter into co-development and co-promotion agreements to enhance the scope and depth of our research portfolio. Such agreements 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. We analyze collaborative arrangements to determine if multiple elements can be divided into separate units of accounting and how the arrangement consideration should be recognized. Where an arrangement can be divided into separate units, the arrangement consideration is allocated amongst those varying units and recognized over the respective performance period. Where the arrangement cannot be divided into separate units, the total arrangement consideration is allocated on a straight-line basis over the estimated collaboration period. Such determinations require management to make certain estimates. For each new drug candidate, we establish a detailed timetable in close consultation with our partners. We base these timetables on, among other things, our past experience. We believe that our current estimates are based on sound assumptions.

      With respect to the agreements we have entered into to date, upfront payments and other similar non-refundable payments received that relate to the sale or licensing of products or technologies are reported as deferred income and recognized as other income over the collaboration periods on a straight-line basis.

      It is important to emphasize that given the complex nature of our development projects, our collaborative arrangements and the uncertainties inherent in the research and development and regulatory approval processes, any estimate of dates on which we expect to advance further in research and development or obtain regulatory approval involves uncertainty and the exercise of significant management judgment. Any change in any of these dates has an impact on the corresponding collaboration periods and as such on the amount recorded in the balance sheet and our results of operations.

Employee Incentive Plans

      As described in greater detail in this annual report and in Notes 2, 13 and 32 to our consolidated financial statements, we offer various share-based employee incentive plans. See “Item 6: Directors, Senior Management and Employees — Share Ownership — Stock Option Plans” and “Item 6: Directors, Senior Management and Employees — Share Ownership — ALTANA Investment Program” for additional information on these plans. As of January 1, 2005 IFRS 2 became effective. Before the application of IFRS 2, the Company measured expenses for share-based payments as the excess of the average cost of treasury shares acquired by the Company over the exercise price of the option. IFRS 2 introduces a fair-value based model for the accounting for share-based compensation. It requires management to record the fair value of an option as an expense. Options granted under employee incentive plans settled in equity instruments are measured at their fair market value based on a Binomial option pricing model at the date of grant while cash-

settled plans are initially measured at their grant date fair value based on a Black Scholes pricing model and are remeasured at fair value at the end of each reporting period. Compensation expense for both types of plans are ratably recognized over the relevant service period.

      In accordance with the transitional provisions of IFRS 2, the Company restated its prior year financial statements to reflect the cost of grants awarded after November 7, 2002 and not yet vested by January 1, 2005. Employee incentive plans initiated since 2003 fall within the scope of this standard.

      The level of compensation costs that we have historically recorded under IFRS is not necessarily indicative of the level of compensation costs that we may record in the future. Furthermore, fair value measurements are based on parameters such as volatility, interest rate, share price, duration of the option and expected dividend. Vesting conditions are not taken into account when estimating the fair value, unless these conditions are market-based. Instead, the total expense incurred is adjusted for the number of options that eventually vest. Compensation expense and liabilities could materially differ from estimated amount on the balance sheet date if the parameters used change.

Pension Plans

      We provide various pension plans and other retirement benefit plans for our employees both in Germany and abroad. While some of these plans are funded by separate plan assets, most of them are not. We value our exposure under each of these plans using the projected unit credit method set forth in IAS 19. In performing valuations, we rely on the advice of actuarial consultants. The methodologies used by us require that we make estimates for some parameters, including the expected discount rate, the expected rate of compensation increase, the expected rate of pension increase and, in the case of plans covered by plan assets, the expected return on these assets. Furthermore, our actuarial consultants use statistical-based assumptions covering future withdrawals of participants from the plan and estimates of life expectancy. The actuarial assumptions used may differ materially from actual results due to changes in market and economic conditions, higher or lower withdrawal rates or longer or shorter life spans of participants. These differences could significantly impact the defined benefit obligation and the resulting pension liability. See Note 14 and Note 32 to our consolidated financial statements for further details with regard to the change in pension obligations and financing status.

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 highly competitive and research/technology intensive markets in which we are active. In addition to our in-house research and development activities, 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 to gain new scientific or technical knowledge and understanding. Development expenses are defined as costs incurred to achieve technical and commercial feasibility of products under development. Our research and development expenses typically consist of salaries and benefits, allocated overhead costs, occupancy costs, clinical trial and related manufacturing costs, as well as milestone-based payments, contract manufacturing and other outside costs.

      We expense all research costs as incurred. Further, given the regulatory approval process and other uncertainties inherent in the development of our products, the conditions set forth in IAS 38 for capitalizing development costs are not satisfied, therefore development costs are also expensed as incurred. Significant management judgment is required when assessing the possible outcome of development activities.

      In the case of 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 our own on-going research efforts and which may therefore be expensed over one or more future periods.

Impairment

      Goodwill and intangible assets with indefinite lives. Since January 1, 2004, goodwill and intangible assets with indefinite lives are no longer amortized but instead must be tested for impairment annually or more frequently if events and circumstances indicate that the carrying amount is not recoverable. These impairment tests are based on recent financial budgets, which are based on historical experience, are subject to change and represent management’s current best estimates regarding future developments. For a more detailed description of our impairment tests, see Notes 5 and 32 of our consolidated financial statements.

      Tangible and intangible assets with definite lives. A significant percentage of our assets is comprised of long-lived assets. We record these long-lived assets at cost and amortize or depreciate them, as the case may be, on a straight-line basis over the shorter of the term of the underlying contract, if applicable, or their estimated useful lives. As shown in Note 5 and discussed in Note 32 to our consolidated financial statements, we hold various intangible assets with definite lives. The useful life of an intangible asset, which is the period over which the asset is expected to contribute directly or indirectly to future cash flows, can be influenced by various factors, including legal, regulatory, contractual, competitive, economic and other factors. While many of our intangibles have a known contractual or legal life, determining the impact of other factors can involve considerable uncertainty and therefore requires management to exercise significant judgment in estimating the period over which the cost of an asset should be expensed. Similar estimates are required for our tangible fixed assets.

      The carrying value of all long-lived assets is subject to possible impairment. If facts and circumstances indicate that the carrying amount of an asset may not be recoverable in full, we estimate the fair value of the asset by discounting the expected future cash flows generated by it during its remaining estimated useful life plus any salvage value at the end of that period. If the estimated fair value of the asset is lower than its carrying amount, we record an impairment charge and adjust the carrying amount accordingly. Fair value estimates involve uncertainty and often require the exercise of significant management judgment. Although our management is confident that its estimates rest on sound assumptions, the actual cash flows generated by an asset in any given period and its actual salvage value could be materially different than that estimated, which could require us to record an unexpected impairment charge.

      Marketable securities and certain long-term investments. We hold marketable securities and certain long-term investments classified as available-for-sale and, therefore, carried at fair value with unrealized gains and losses recorded in equity (revaluation reserve), net of tax. These securities are tested for impairment at each balance sheet date. Our policy to determine if an impairment of a security exists is based on a two-step approach, which takes into account both the fact whether the difference between the fair market value of the security and its book value is significant as well as for how long this difference exists. Impairment losses are recognized in other financial expenses when realized and are determined on a security-by-security basis. Because market prices are available for most of the securities we hold in our portfolio, there is no need for estimates to determine the fair market value. Our management monitors our securities portfolio closely and believes the impairment procedures set out above are adequate to determine whether an impairment is necessary with respect to a particular security. However, there might be market effects which cannot be anticipated by management and would therefore cause unexpected impairment charges.

Business Combinations

      We account for acquired businesses using the purchase method of accounting in accordance with IFRS 3. In accordance with those standards, assets and liabilities acquired are recorded at the respective fair values at the date of acquisition. The application of the purchase method requires management to make certain estimates and judgments. The judgments made in determining the estimated fair value assigned to each class of assets acquired and liabilities assumed, as well as asset useful lives, can materially impact our results of operations. One of the most significant estimates relates to the determination of the fair value of assets and liabilities acquired. For other than intangible assets acquired, management determines the fair value and useful life based on the nature of the asset. For example, marketable securities and other investments are valued at the market rate on the date of acquisition, while an independent appraisal is often obtained for land,

buildings and equipment. Management also assesses whether any significant intangible assets arise from contractual or other legal rights of the acquired entity or are separable from the acquired entity. If any intangible assets are identified, management must determine the value of these intangibles. Valuations are based on the best information available near the acquisition date and are based on expectations and assumptions that have been deemed reasonable by management. Depending on the type of intangible asset and the complexity of determining its fair value, management often consults with independent external valuation experts. Determining the useful life of an intangible asset also requires judgment as different types of intangible assets will have different useful lives and certain assets may even be considered to have indefinite useful lives. For example, the useful life of the rights associated with a patent will be finite and will result in amortization expense being recorded in our results of operations over a determinable period. However, the useful life associated with a brand that has, and is expected to retain, a distinct market identity could be considered to be indefinite and, accordingly, would not be amortized. Any residual amount remaining after allocation of the purchase price to the fair value of all assets and liabilities acquired is recorded as goodwill.

Results of Operations

Group

      The following table sets forth selected items of our consolidated income statement for the three years ended December 31, 2005 both in absolute terms and as percentages of net sales:

Results of Operations(1)

Retroactive adoption of IFRS 2 “Share-based Payment” and IAS 39 “Financial Instruments”

      In February 2004, the International Accounting Standards Board (“IASB”) issued IFRS 2 “Share-based Payment” regarding grants of shares and share options to employees. IFRS 2 applies to fiscal years beginning on or after January 1, 2005. In accordance with the transitional provisions of IFRS 2, we have restated our prior-year financial statements to reflect the cost of grants of shares and share options to employees after November 7, 2002, which had not vested by January 1, 2005. All of our employee incentive plans launched since 2003 are covered by this standard. For more information see “— Critical Accounting Policies — Employee Incentive Plans”.

      The following table describes the retroactive adjustments we made to several line items of our income statement for the year ended December 31, 2004 and reconciles the amounts previously reported to those resulting from the retroactive application of IFRS 2 as of January 1, 2004:

Retroactive Adjustments for the Year Ended December 31, 2004(1)

      The following table describes the retroactive adjustments we made to several line items of our income statement for the year ended December 31, 2003 and reconciles the amounts previously reported to those resulting from the retroactive application of IFRS 2 and IAS 39 as of January 1, 2003:

Retroactive Adjustments for the Year Ended December 31, 2003(1)

2005 compared with 2004

      Net sales. Net sales increased by 10.4%, from € 2,963 million in 2004 to €  3,272 million in 2005. As in prior periods, the increase in 2005 was once again driven by our pharmaceuticals segment, with net sales rising by 12.1%. This growth was due primarily to revenue growth in the segment’s therapeutics business, reflecting the continued growth of Pantoprazole, particularly in Europe. Net sales of our chemicals segment experienced an increase of 6.2%. A major part of this growth is attributable to the acquisition of the ECKART Group in October 2005. In 2005, the net effect of acquisitions and dispositions to our net sales growth was a contribution of 0.8%. Currency effects contributed 1.3% to our net sales growth. Excluding the effects of acquisitions, dispositions and foreign exchange movements, our net sales in 2005 would have increased by 8.3%.

      Cost of sales. Cost of sales includes the manufacturing costs of products sold. In addition to directly attributable costs, such as material costs, staff costs and energy costs, this line item also covers indirect costs, including directly attributable depreciation charges. Cost of sales rose by 7.1%, from € 1,016 million in 2004 to €  1,088 million in 2005. As a percentage of net sales, cost of sales decreased from 34.3% to 33.2% during the same period. The absolute increase in cost of sales was due to an increase of cost of sales in both segments but primarily driven by our chemicals segment.

      Selling and distribution expenses. Selling and distribution expenses are costs incurred by our sales and marketing organization as well as advertising and logistics costs. In absolute terms our selling and distribution expenses rose by 18.9%, from € 779 million in 2004 to €  926 million in 2005. As a percentage of net sales, selling and distribution expenses increased from 26.3% to 28.3%. This development was due to an increase in selling and distribution expenses in our pharmaceuticals segment, whereas selling and distribution expenses in our chemicals segment remained flat.

      Research and development expenses. Research expenses comprise costs incurred for original and planned investigations undertaken to gain new scientific or technical knowledge and understanding. Development expenses include costs incurred to achieve technical and commercial feasibility of products under development. Our research and development expenses typically consist of salaries and benefits, allocated

overhead costs, occupancy costs, clinical trial and related manufacturing costs, as well as milestone payments and other outside costs.

      Research and development expenses increased by 3.9%, from € 448 million in 2004 to €  465 million in 2005. As a percentage of net sales, research and development expenses decreased from 15.1% to 14.2%. The increase in absolute terms equally reflects increased levels of R&D expenditures in each of our segments.

      General administrative expenses. General administrative expenses include overhead, administrative expenses and personnel and non-personnel costs incurred by management to the extent that they are not charged to other cost centers. General administrative expenses increased by 14.6% from € 151 million in 2004 to €  173 million in 2005. As a percentage of net sales, they increased from 5.1% to 5.3%. This increase is attributable to both of our segments, reflecting increased business activities and, with respect to our chemicals segment, the effect of two recent acquisitions.

      Other operating income. Other operating income primarily consists of gains realized on the sale of assets, income from milestone payments, income from licensees and co-marketing partners. Other operating income increased by 27.4%, from € 69 million in 2004 to € 88 million in 2005. This increase is mainly attributable to previously deferred revenues recognized as income in connection with the termination of our co-development and co-marketing agreement with Pfizer.

      Other operating expenses. Other operating expenses decreased by 9.2%, from € 34 million in 2004 to €  31 million in 2005. While other operating expenses remained flat in each of our segments, they declined at the group level due to reduced negative currency effects at the group level.

      Financial income, net. In 2005, financial income, net increased slightly from € 7 million in 2004 to €  8 million in 2005. In relative terms, the financial result increased by 13.6%. The increase was driven by higher interest income and increased gains from the sale of securities, the effects of which were partially offset by higher expenses incurred in connection with derivative instruments, the impairment of securities and increased interest expenses.

      Income tax expense. Income tax expense includes corporate income and trade taxes, similar foreign taxes and changes in deferred taxes, each calculated on the basis of the income of our company and its subsidiaries. Income tax expense increased by 5.6%, from € 233 million in 2004 to €  246 million in 2005. Our effective tax rate decreased from 38.0% to 35.9%. This decrease is attributable to lower non-deductible expenses and higher tax-free earnings.

2004 compared with 2003

      Net sales. Net sales increased by 8.3%, from € 2,735 million in 2003 to € 2,963 million in 2004. As in prior periods, the increase in 2004 was once again driven by our pharmaceuticals segment, with net sales rising by € 129 million in absolute terms and by 6.5% in relative terms, primarily due to revenue growth in the segment’s therapeutics business as a result of the continued growth of Pantoprazole, particularly in Europe. Given the position that Pantoprazole has achieved in most major markets to date and recent market data suggesting a stabilization of its market share in some major markets, we expect the overall growth of the drug to slow in the future. The positive impact of Pantoprazole on our pharmaceuticals segment was partially offset by unfavorable exchange rate movements, greater pricing pressure resulting from increased competition in the U.S. market and unfavorable regulatory developments, particularly the impact of the fixed mandatory rebate system (Kassenrabatte) in Germany. Net sales of our chemicals segment experienced a strong increase of €  99 million in absolute terms and 13.1% in relative terms, on account of revenue growth of our Additives & Instruments and Electrical Insulation business areas in all regions. Part of this growth is attributable to an acquisition made in August 2003. Adjusted for acquisition, disposition and currency effects, our net sales would have risen by approximately 9%. You should note that net sales reflect the reduction of gross sales by certain deductions. For more information on gross sales and related deductions as well as on the German fixed mandatory rebate system, see “Critical Accounting Policies — Revenue Recognition”.

      Cost of sales. Cost of sales rose by 7.2%, from € 948 million in 2003 to €  1,016 million in 2004. As a percentage of net sales, cost of sales remained virtually unchanged, decreasing only slightly from 34.7% to

34.3% during the same period. The absolute increase in cost of sales was primarily driven by our chemicals segment and reflects higher levels of net sales in that segment. The slight decrease in cost of sales as a percentage of sales is almost exclusively attributable to our pharmaceuticals segment, reflecting higher shipped volumes of Pantoprazole, which has relatively low manufacturing costs relative to its price, compared with our other products.

      Selling and distribution expenses. In absolute terms our selling and distribution expenses rose by 9.6%, from € 711 million in 2003 to € 779 million in 2004. As a percentage of net sales, selling and distribution expenses increased slightly from 26.0% to 26.3%. This development was due to an increase in selling and distribution expenses in both of our segments. Pharmaceutical selling and distribution expenses increased in connection with the preparation of the launch of the MDI application of Ciclesonide, marketed under the brand name Alvesco^®, and the expected launch of our pipeline drug Roflumilast. The increase of selling and distribution costs in our chemicals segment reflects the growth of the underlying business.

      Research and development expenses. Research and development expenses increased by 8.4%, from € 413 million in 2003 to €  448 million in 2004. As a percentage of net sales, research and development expenses remained stable at approximately 15%. The increase in absolute terms reflects increased levels of R&D expenditures in our pharmaceuticals segment, mainly in connection with clinical trials for Ciclesonide and Roflumilast.

      General administrative expenses. General administrative expenses increased by 24.3% from € 122 million in 2003 to €  151 million in 2004. As a percentage of net sales, they increased from 4.4% to 5.1%. This increase is mainly attributable to our pharmaceuticals segment, reflecting an industry-wide rise in insurance fees and the recruitment of additional employees, mainly to strengthen the corporate function at the ALTANA Pharma headquarters.

      Other operating income. Other operating income declined by 23.9%, from € 91 million in 2003 to € 69 million in 2004. This decline reflects a decrease of earnings from € 20 million in 2003 to € 4 million in 2004 due to the sale of product lines, lower income from milestone payments, which decreased from € 20 million in 2003 to € 16 million in 2004, and the absence of the release of accruals relating to the satisfactory resolution of a potential dispute regarding import prices in one of our subsidiaries, which bolstered other operating income in 2003. These effects are partially offset by net foreign currency gains of €  5 million compared with net foreign currency losses in 2003.

      Other operating expenses. Other operating expenses comprise foreign currency exchange losses and expenses that are not allocable to any of the expense items discussed above. Until 2003, operating expenses also consisted of goodwill amortization. As a result of the adoption of IFRS 3 in 2004, however, goodwill is no longer amortized on a straight-line basis, but is subject to an annual impairment test. No impairment was necessary in 2004. Other operating expenses decreased by 53.7% from € 74 million in 2003 to € 34 million in 2004. This decrease mainly reflects the change in accounting for goodwill (2003: € 17 million) and the absence of net foreign currency losses, which accounted for €  12 million in 2003.

      Financial income, net. In 2004, financial income, net decreased by 26.1%, from € 10 million in 2003 to € 7 million in 2004. The decline of financial income is mainly attributable to a decrease in net interest income from € 13 million in 2003 to €  9 million in 2004.

      Income tax expense. Income tax expense decreased by 1.1%, from € 235 million in 2003 to €  233 million in 2004. Our effective tax rate decreased from 41.4% to 38.0%. This decrease reflects lower effective tax rates in Germany as well as abroad and higher foreign earnings contributions, the effective tax rates of which are substantially lower than the domestic tax rate.

Pharmaceuticals

      The following table sets forth selected information for our pharmaceuticals segment for the three years ended December 31, 2005:

Pharmaceuticals Results of Operations(1)

2005 compared with 2004

      Net sales. Net sales of our pharmaceuticals segment increased by 12.1% from € 2,109 million in 2004 to € 2,365 million in 2005. As in prior years, this development was almost exclusively driven by a significant increase in the net sales of Pantoprazole. In the period under review, net sales of Pantoprazole rose by 12.0%, from € 1,216 million in 2004 to €  1,361 million in 2005, which corresponds to a revenue contribution to the segment of 57.6% in 2005. In 2005, Pantoprazole again achieved substantial net sales growth in local currencies in most parts of the world. Given the position that Pantoprazole has achieved in most major markets to date and recent market data suggesting a stabilization of its market share in some of these markets, we expect the overall growth of the drug to slow in the future. The positive development in 2005 was in part reinforced by favorable exchange rate movements of the euro vis-à-vis several currencies, particularly the Brazilian real and the Canadian dollar, which increased the segment’s net sales by two percentage points. Dispositions and acquisitions, including the acquisition of rights to certain dermatology products in the United States, did not have a material net effect on the increase in net sales. Excluding acquisitions, dispositions and currency effects the net sales of our pharmaceuticals segment would have grown by approximately 10.2% in 2005.

      The following table breaks down the net sales of our pharmaceuticals segment by geographic region for the two years ended December 31, 2004 and 2005:

Net Sales by Geographic Region(1)(2)

      In 2005, net sales of our pharmaceuticals segment increased in all geographic regions in which we are active. As of January 1, 2005, Pantoprazole ceased to be subject to the German fixed mandatory rebate system and instead became subject to a statutory fixed price. Nonetheless, our sales in Germany increased by 18.2%, due mainly to an increase in Pantoprazole sales. In Europe (excluding Germany), marketing activities led to double-digit growth in net sales in almost all markets. In the United States, we experienced only a moderate rise in net sales, reflecting increased demand for Pantoprazole, the effect of which was offset by both the fact that Wyeth served this demand in part by utilizing its existing Pantoprazole stocks and a decline in volumes caused by a shift in Wyeth’s marketing strategy from the highly discounted medicaid sector to the more profitable managed-care sector in 2005. In Latin America, we achieved double-digit net sales growth due to the performance of our Mexican and Brazilian subsidiaries including the successful marketing of Neosaldina^®. Net sales growth in Latin America was also supported by favorable exchange rates.

      The following table breaks down the net sales of our pharmaceuticals segment by business area for the two years ended December 31, 2004 and 2005:

Net Sales by Business Area(1)

      In 2005, our net sales growth, as in prior years, was driven by our therapeutics franchise, mainly as a result of the growth of our gastrointestinal franchise, which grew by 12.4% and accounted for 74.2% of our overall therapeutics revenues in 2005. The main growth driver within our gastrointestinal franchise continued

to be Pantoprazole. Net sales of Pantoprazole rose from € 1,216 million in 2004 to € 1,361 million in 2005, contributing 65.7 percentage points to therapeutics net sales. Despite competition from a variety of other PPIs, both branded and generic, and from OTC versions of Omeprazole-based PPIs, Pantoprazole’s share of prescriptions of the U.S. PPI market remained at about 20%. Given that Pantoprazole has meanwhile achieved a significant share in most markets and based on recent market data, we expect the growth of our net sales of this drug to slow in the coming years. Our respiratory net sales grew to € 69 million. Net sales from other therapeutics, which mainly comprises cardiovascular therapeutics, grew from € 413 million in 2004 to €  466 million in 2005.

      Net sales of our OTC business increased by 13.2% from € 115 million in 2004 to € 131 million in 2005. This increase is mainly attributable to higher sales of Neosaldina^® in Latin America and favorable changes in exchange rates.

      Net sales of our imaging business remained flat at €  108 million in 2005.

Operating income

      Cost of sales. In our pharmaceuticals segment, cost of sales rose by 5.2%, from € 495 million in 2004 to €  521 million in 2005. As a percentage of net sales, cost of sales decreased from 23.5% to 22.0% over the same period. The relative decrease in cost of sales was mainly driven by the shipment of higher volumes of Pantoprazole, which has lower manufacturing costs relative to its selling price than most products in our portfolio. The increase in Pantoprazole shipments also led to a higher utilization in our production sites, which positively influenced our cost of sales as a percentage of net sales.

      Selling and distribution expenses. Selling and distribution expenses of our pharmaceuticals segment increased by 23.0%, from € 645 million in 2004 to € 793 million in 2005. As a percentage of net sales, selling and distribution expenses increased from 30.6% to 33.5% over the same period. This development mainly reflects increased selling and distribution expenses incurred in connection with the launch of Alvesco^®, our increased efforts to maximize the market potential of Pantoprazole, mainly in Europe, and the marketing of our topical products in the United States.

      Research and development expenses. Research and development expenses of our pharmaceuticals segment rose by 2.2% from € 410 million in 2004 to €  418 million in 2005. As a percentage of pharmaceuticals net sales research and development expenses decreased from 19.4% to 17.7% during the period under review. Our strategy is to allocate approximately 20% of our therapeutics net sales in any given year to R&D projects. In 2005, research and development expenses, expressed as a percentage of therapeutics net sales, remained within the targeted range, decreasing from 22.3% to 20.2%. The increase in the absolute level of our research and development expenses is mainly attributable to higher development costs for Ciclesonide. In 2005, we allocated approximately 25% of our research and development expenses to basic research and drug discovery and spent approximately 75% on development, particularly the development of Ciclesonide and Roflumilast.

      General administrative expenses. General administrative expenses of our pharmaceuticals segment increased by 14.6%, from € 67 million in 2004 to €  77 million in 2005. As a percentage of net sales, general administrative expenses increased slightly from 3.2% to 3.3% over the same period. This increase was due to higher compliance costs in connection with the Sarbanes-Oxley Act of 2002 and increased IT expenses incurred in 2005.

      Other operating income and expenses. Other operating income of our pharmaceuticals segment increased significantly by 32.0% from € 58 million in 2004 to € 75 million in 2005. This increase is mainly attributable to previously deferred revenues recognized as income in connection with the termination of our co-development and co-marketing agreement with Pfizer, and also to higher gains from the disposal of assets. Other operating expenses remained flat at €  26 million in 2005.

2004 compared with 2003

      Net sales. Net sales of our pharmaceuticals segment increased by 6.5% from € 1,980 million in 2003 to € 2,109 million in 2004. As in prior years, this development was almost exclusively driven by a significant increase in the net sales of Pantoprazole. In the period under review, net sales of Pantoprazole rose by 9.2%, from € 1,113 million in 2003 to € 1,216 million in 2004, which corresponds to a revenue contribution to the segment of 57.6% in 2004. In 2004, Pantoprazole again achieved double-digit net sales growth in local currencies in most parts of the world. This positive trend was partially offset by a decrease in net sales resulting from unfavorable exchange rate movements of the euro vis-à-vis the U.S. dollar and currencies linked to the U.S. dollar, which reduced the segment’s net sales by two percentage points, and adverse regulatory changes, particularly in Germany. Dispositions and acquisitions, including the acquisition of the OTC drug Neosaldina^® in 2003, accounted for one percentage point of the increase in our pharmaceuticals net sales. Excluding acquisitions, dispositions and currency effects the net sales of our pharmaceuticals segment would have grown by approximately 8% in 2004.

      The following table breaks down the net sales of our pharmaceuticals segment by geographic region for the two years ended December 31, 2003 and 2004:

Net Sales by Geographic Region(1)(2)

      In 2004, net sales of our pharmaceuticals segment increased in most geographic regions in which we are active. The only exception was Germany, where net sales were affected by increased fixed mandatory rebates (Kassenrabatte) imposed by the German government on the prices for most ethical therapeutics. As from January 1, 2005, Pantoprazole ceased to be subject to the German fixed mandatory rebate system and instead became subject to a statutory fixed price in Germany. For more information on the accounting impact of the mandatory rebate system, see “Critical Accounting Policies — Revenue Recognition”. We experienced the strongest growth in Europe (excluding Germany) due to increased Pantoprazole sales in almost all relevant markets. In the United States we experienced only a moderate rise in net sales mainly due to unfavorable currency exchange developments and increased competition on the U.S. PPI market. In Latin America, we achieved double-digit net sales growth despite unfavorable currency exchange rate effects, primarily due to the economic upturn as well as additional revenues resulting from the acquisition of Neosaldina^®.

      The following table breaks down the net sales of our pharmaceuticals segment by business area for the two years ended December 31, 2003 and 2004:

Net Sales by Business Area(1)

      In 2004, our net sales growth, as in prior years, was driven by our therapeutics franchise, mainly as a result of the growth of our gastrointestinal franchise, which grew by 10.1% and accounted for 74% of our overall therapeutics revenues in 2004. The main growth driver within our gastrointestinal franchise continued to be Pantoprazole. Net sales of Pantoprazole rose from € 1,113 million in 2003 to € 1,216 million in 2004, contributing 66.1 percentage points to therapeutics net sales. Despite competition from a variety of other PPIs, both branded and generic, and from OTC versions of Omeprazole-based PPIs, Pantoprazole’s share of prescriptions of the U.S. PPI market continued to rise until autumn 2004 and then stabilized. Given that Pantoprazole has meanwhile achieved a significant share in most markets and based on recent market data, we expect the growth of our net sales of this drug to slow in the coming years. Our respiratory net sales remained flat at € 59 million. Net sales from other therapeutics, which mainly comprises cardiovascular therapeutics, experienced a modest decline from € 424 million in 2003 to €  413 million in 2004 due to the loss of exclusivity for an in-licensed cardiovascular product.

      Net sales of our OTC business increased by 10.7% mainly as a result of the acquisition of Neosaldina^® in December 2003.

      Net sales of our imaging business experienced a moderate increase of 3.3% in 2004, due primarily to increased net sales of our magnetic resonance imaging portfolio in Europe (excluding Germany).

Operating income

      Cost of sales. In our pharmaceuticals segment, cost of sales rose by 1.6%, from € 487 million in 2003 to €  495 million in 2004. As a percentage of net sales, cost of sales decreased from 24.6% to 23.5% over the same period. The relative decrease in cost of sales was mainly driven by the shipment of higher volumes of Pantoprazole.

      Selling and distribution expenses. Selling and distribution expenses of our pharmaceuticals segment increased by 8.0%, from € 597 million in 2003 to €  645 million in 2004. As a percentage of net sales, selling and distribution expenses increased slightly from 30.2% to 30.6% over the same period. This development mainly reflects increased selling and distribution expenses incurred in connection with preparations for the expected launch of our pipeline drugs Ciclesonide and Roflumilast, especially in the United States and Germany.

      Research and development expenses. Research and development expenses of our pharmaceuticals segment rose by 8.8% from € 376 million in 2003 to €  410 million in 2004. As a percentage of pharmaceuticals net sales research and development expenses increased slightly from 19.0% to 19.4% in 2004. Expressed as a percentage of therapeutics net sales, research and development expenses increased slightly from 21.8% to 22.3% in the same period, which is in line with our strategy to allocate approximately

20% of our therapeutics net sales in any given year to R&D projects. The majority of our research and development expenses in 2004 were due to R&D activities related to clinical trials and regulatory filings in connection with the expected launch of Roflumilast and Ciclesonide, for which we received approval in some major European markets in 2004. In 2004, we allocated approximately 25% of our research and development expenses to basic research and drug discovery and spent approximately 75% on development.

      General administrative expenses. General administrative expenses of our pharmaceuticals segment increased by 40.9%, from € 48 million in 2003 to €  67 million in 2004. As a percentage of net sales, general administrative expenses increased from 2.4% to 3.2% over the same period. This increase was due to higher insurance fees and the recruitment of additional employees, mainly to strengthen the corporate function of the ALTANA Pharma headquarters.

      Other operating income and expenses. Other operating income of our pharmaceuticals segment decreased significantly by 30.8% from € 84 million in 2003 to € 58 million in 2004. This decrease primarily reflects the absence of the sale of certain product lines which contributed € 20 million to other operating income in 2003 and lower income from milestone payments, which decreased from € 20 million in 2003 to € 16 million in 2004. In addition, it reflects the absence of the release of accruals relating to the satisfactory resolution of a potential dispute regarding import prices in one of our subsidiaries, which bolstered other operating income in 2003. These effects were partially offset by net currency gains in 2004. Other operating expenses declined by 48.4%, from € 51 million in 2003 to €  27 million in 2004, mainly due to the absence of foreign currency exchange losses and the change in the accounting for goodwill resulting from the adoption of IFRS 3.

Chemicals

      The following table sets forth selected information for our chemicals segment for the three years ended December 31, 2005:

Chemicals Results of Operations(1)