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Note 24 Financial risk management
and financial instruments


Our activities expose us to a variety of financial risks: market risk (including: currency risk, fair value interest rate risk and price risk), credit risk and liquidity risk. These risks are inherent to the way we operate as a multinational with a large number of locally operating subsidiaries. Our overall risk management program seeks to identify, assess, and – if necessary – mitigate these financial risks in order to minimize potential adverse effects on our financial performance. Our risk mitigating activities include the use of derivative financial instruments to hedge certain risk exposures. The Board of Management is ultimately responsible for risk management. Day-to-day risk management activities are carried out by a central treasury department (Corporate Treasury) in line with clearly identified and formalized corporate policies and in line with the Treasury Statute. Corporate Treasury identifies, evaluates and hedges financial risks at a corporate level, and monitors compliance with the corporate policies approved by the Board of Management, except for commodity risks, which are subject to identification, evaluation and hedging at business unit level rather than at corporate level. We have a Corporate Finance & Treasury Committee in place that advises the CFO in respect of the financial policy and evaluates the scope and performance of liquidity, interest, credit and currency risk management.

The businesses play an important role in the process of identifying financial risk factors. Within the boundaries set in the corporate policies, the subsidiaries execute the appropriate risk management activities. We have treasury hubs which provide treasury services on behalf of Corporate Treasury to subsidiaries in their region. These treasury hubs are located in Brazil (São Paulo), Asia (Singapore/Shanghai) and the United States (Chicago) and are primarily responsible for local cash management and short-term financing.

The Treasury Statute does not allow for extensive treasury operations to be executed at subsidiary level directly with external parties. It is corporate policy that derivatives are entered into through Corporate Treasury.

Corporate Treasury is responsible for reporting to the Board of Management on company-wide exposures on a number of financial risks. This includes information regarding liquidity, foreign exchange, interest rate, capital and credit risk. In addition, Corporate Treasury is responsible for maintaining a robust set of internal controls over treasury operations. We use a well-known treasury management system to support our treasury activities.

Foreign exchange risk management

Trade and financing transactions

Our subsidiaries operate in a large number of countries, and as such have clients and suppliers in many countries. Many of these subsidiaries have clients and suppliers that are outside of their functional currency environment. This creates currency exposure which is partly netted out on consolidation.

The purpose of our foreign currency hedging activities is to protect us from the risk that the eventual functional currency net cash flows resulting from trade or financing transactions are adversely affected by changes in exchange rates. It is our policy to fully hedge our transactional foreign exchange rate exposures from recognized assets and liabilities. Cash flow hedge accounting is applied by exception.

Corporate Treasury enters into derivative transactions with external parties and is bound by overnight limits per currency. Where hedging through Corporate Treasury is not feasible under local legislation, local hedging may take place.

In general, forward exchange contracts that we enter into have a maturity of less than one year. When necessary, forward exchange contracts are rolled over at maturity. Currency derivatives are not used for speculative purposes.

Translation risk related to investments in foreign subsidiaries associates and joint ventures

We have subsidiaries with a functional currency other than the euro. Therefore our consolidated financial statements are exposed to translation risk related to equity, intercompany loans of a permanent nature and earnings of foreign subsidiaries and investment in associates and joint ventures. In principle, we do not use financial instruments to hedge this risk.

In the following cases, we apply net investment hedge accounting. We have forward contracts to sell $780 million and buy £405 million, maturing in December 2011. This contract hedges the foreign currency risk on $780 million of net investments in foreign operations held by a pound sterling subsidiary. Net investment hedge accounting is also applied on hedges of pound sterling net investments in foreign operations which were hedged by a pound sterling bond. The hedge started at inception of the £250 million bond issued in April 2009. In 2009, both of the hedges were fully effective.

Foreign currency transaction risk

The table below presents a breakdown of the notional amounts of outstanding foreign currency contracts for entities with other functional currencies than the euro.

Hedged notional amounts at year-end

 

 

 

 

 

In € millions

Buy

Sell

Buy

Sell

 

 

2008

 

2009

 

 

 

 

 

US dollar

58

1,201

241

1,474

Pound sterling

747

97

848

144

Swedish krona

101

36

270

91

Other

138

951

296

252

 

 

 

 

 

Total

1,044

2,285

1,655

1,961

Sensitivity analysis

We perform foreign currency sensitivity analysis by applying an adjustment to the spot rates prevailing at year-end. This adjustment is based on observed changes in the exchange rate in the past and management expectation for possible future movements. We then apply the expected possible volatility to revalue all monetary assets and liabilities (including derivative financial instruments) in a currency other than the functional currency of the subsidiary in its balance sheet at year-end.

At December 31, 2009, if the euro had weakened/strengthened by 10 percent against the US dollar with all other variables held constant, post-tax profit for the year would have been €6 million(2008: €9 million) lower/higher. At December 31, 2009, if the euro had weakened/strengthened by 10 percent against the pound sterling with all other variables held constant, post-tax profit for the year would have been €1 million (2008: €1 million) higher/lower.

Price risk management

Commodity price risk management

We use commodities, gas and electricity in our production processes and we are particularly sensitive to energy price movements.

Our Specialty Chemicals companies in the US hedge the price risk on natural gas through buying natural gas futures on the New York Mercantile Exchange. At year-end 2009, the notional amounts of these futures are 1.7 million dekatherms, spread over all 12 months of 2010 (2008: 1.6 million dekatherms, spread over all 12 months of 2009). The total fair value of these futures is € nil at year-end (2008: €2 million negative). No hedge accounting is applied to the changes of the fair value of these contracts.

To hedge the price risks related to energy supply in the Netherlands, we operate one power plant in joint venture with Essent/RWE in Delfzijl of 520 MW. AkzoNobel power plants are located in Hengelo (80 MW), Rotterdam (20 MW) and Mariager, Denmark (20 MW). The power plants transform natural gas into steam and electricity. The steam is used in our production facilities and excess electricity is sold on the market. The price for natural gas in our purchase contracts is a fixed or floating price. In order to hedge the price risk of natural gas in these contracts, we have partly entered into option contracts for the underlying oil price. At year-end 2009, the notional amount of oil call options is 41,700 barrels per month until September 2010. Income volatility caused by energy prices of the unit in Denmark has been hedged by an electricity price swap, concluded for 16,133 MWh per month until December 2010. We do not apply hedge accounting to the changes of the fair value of the hedge contracts.

To hedge the price risk of electricity that is used for the Specialty Chemicals plants in Sweden and Finland, we entered into future contracts on the power exchange Nord Pool Spot, based on expected use of electricity over the period 2009 – 2014. We apply cash flow hedge accounting to these contracts in order to mitigate the accounting mismatch that would otherwise occur. The effective part of the fair value changes of these contracts amounted to a €12 million loss net of deferred taxes in equity (2008: €25 million deferred loss). In 2009, nothing was recorded in cost of goods sold due to ineffectiveness (2008: €2 million loss). The amounts deferred in equity at year-end are expected to affect operational cost within the next five years.

We hedge our agricultural commodities for our specialty food and industrial starch businesses with futures and options contracts purchased at the Chicago Mercantile Exchange. We apply cash flow hedge accounting to these contracts and have operated an effective hedging program throughout 2009. The futures and cash markets for agricultural commodities have experienced volatility in 2009. Price peaks occurred in the second and fourth quarters of 2009 when adverse weather delayed the planting and harvest of crops in the American Midwest. Our standard practice is to hedge a substantial portion of our 2009/2010 crop. The deferred loss on January 1, 2009 was €24 million. During the year, we deferred a gain of €3 million in equity and recognized a loss of €27 million in inventories. At year-end 2009, we deferred a gain of €6 million.

Sensitivity analysis

We perform our commodity price risk sensitivity analysis by applying an adjustment to the forward rates prevailing at year-end. This adjustment is based on observed changes in commodity prices in the previous year and management expectations for possible future movements. We then apply the expected volatility to revalue all commodity-derivative financial instruments in the applicable commodity in our balance sheet at year-end. For the purpose of this sensitivity analysis, the change of the price of the commodity is not discounted to the net present value at balance sheet date.

On December 31, 2009, if a parallel adjustment of the price curve of natural gas by €14,000 per 10,000 dekatherms up/down as compared with the market prices prevailing at that date had occurred, with all other variables held constant, post-tax profit would have been €2 million (2008: €2 million) higher/lower. This is due to the fair value changes of natural gas derivatives.

On December 31, 2009, if the price of oil had weakened/strengthened by €5 per barrel (10 percent) as compared with the market prices prevailing at that date, with all other variables held constant, post-tax profit would have been € nil higher/lower (2008: € nil).

On December 31, 2009, if the forward price of electricity on the Nord Pool exchange had weakened/strengthened by €4 per MWh (10 percent) as compared with the market prices prevailing at that date, with all other variables held constant, equity would have been €8 million (2008: €9 million) higher/lower. This is due to the fair value changes of electricity futures which have been accounted for under cash flow hedge accounting.

On December 31, 2009, if the forward prices of agricultural commodities were 10 percent weaker/stronger than the market prices actually prevailing at that date, with all other variables held constant, equity would have been €2 million higher/lower. This is due to the fair value changes of agricultural derivatives which have been accounted for under cash flow hedge accounting.

Cash flow and fair value interest rate risk management

We are partly financed with debt in order to obtain more efficient leverage. Fixed rate debt results in fair value interest rate risk. Floating rate debt results in cash flow interest rate risk. The fixed/floating rate of our outstanding bonds shifted from 56 percent fixed at year-end 2008 to 85 percent fixed at year-end 2009. The large increase in fixed/floating percentage is mainly due to maturing bonds in 2009 which were classified as floating in 2008.

We have entered into a number of interest rate swap contracts. A total of $500 million fixed rate liabilities with an interest rate of 5.625 percent were swapped with a three-month floating rate US dollar Libor plus an average of 1.1056 percent liabilities maturing in 2013. We have classified these interest rate swaps as fair value hedges and record them at fair value.

We apply fair value hedge accounting to the above-mentioned interest rate swaps and fixed rate bonds. During 2009, an amount of €14 million has been accounted for in the statement of income for fair value changes of the interest rate swaps and an amount of €14 million has been accounted for in the statement of income as an adjustment to the carrying amount of the hedged bond for fair value changes attributable to the hedged risk. During 2009, these hedge relationships were fully effective.

The effective interest rate (excluding hedge results) over 2009 was 6.33 percent. Combined with the hedge result (interest rate swaps), the effective interest rate was 5.87 percent.

Sensitivity analysis

At December 31, 2009, if EURIBOR interest rates had been 100 basis points higher/lower with all other variables held constant, post-tax profit for the year would have been €6 million higher/lower (2008: €6 million lower/higher).

At December 31, 2009, if US Libor interest rates had been 100 basis points higher/lower, with all other variables held constant, post-tax profit for the year would have been €3 million lower/higher (2008: €4 million lower/higher) .

At December 31, 2009, if GBP Libor interest rates had been 100 basis points higher/lower, with all other variables held constant, post-tax profit for the year would have been €2 million higher/lower (2008: €2 million higher/lower).

Credit risk management

Credit risk arises from financial assets such as cash and cash equivalents, derivative financial instruments with a positive fair value, deposits with banks and financial institutions, and trade receivables.

We have a credit risk management policy in place to limit credit losses due to non-performance of financial counterparties and customers. We monitor our exposure to credit risk on an ongoing basis at various levels. We only deal with counterparties that have a sufficiently high credit rating. Generally, we do not require collateral in respect of financial assets.

Investments in cash and cash equivalents and transactions involving derivative financial instruments are entered into with counterparties that have sound credit ratings and good reputation. Derivative transactions are concluded mostly with parties with whom we have contractual netting agreements and ISDA agreements in place. In the Treasury Statute limits are set per counterparty for the different types of financial instruments the company uses. Due to the global credit crisis in 2009, both the acceptable counterparty credit ratings and credit limits have been closely monitored and revised where required in line with the market circumstances. We have no reason to expect non-performance by the counterparties for these financial instruments.

Due to our geographical spread and the diversity of our customers, we were not subject to any significant concentration of credit risks at balance sheet date. Generally, the maximum exposure to credit risk is represented by the carrying value of financial assets, including derivative financial instruments, in the balance sheet. At year-end 2009, the credit risk on consolidated level was €5.0 billion (2008: €4.7 billion) for long-term borrowings given, trade and other receivables and cash. Our credit risk is well spread amongst both global and local counterparties. Our largest counterparty risk amounted to €224 million at year-end 2009. The credit risk from trade receivables is measured and analyzed at a local operating entity level, mainly by means of ageing analysis. see note 14.

Liquidity risk management

The primary objective of liquidity management is to provide for sufficient cash and cash equivalents at all times and any place in the world to enable us to meet our payment obligations. We aim for a well-spread maturity schedule of our long-term borrowings and a strong liquidity position.

At year-end 2009, we had €1.9 billion available as cash and cash equivalents (2008: €1.4 billion), see note 15. In addition, we have a €1.5 billion multi-currency revolving credit facility expiring in 2013. Both at year-end 2009 and 2008, this facility had not been drawn. We have a commercial paper program in the US, which at both year-end 2009 and 2008 had a maximum of $1.0 billion and a euro commercial paper program, which at both year-end 2009 and 2008 had a maximum of €1.5 billion. At December 31, 2009, the commercial paper programs were not used (2008: €20 million). The commercial paper programs can only be used to the extent that the equivalent portion of the revolving credit facility is not used.

In May 2009, bonds with an amount of €1.0 billion matured. In March 2009, a bond was issued of €750 million, maturing in six years, with an interest rate of 7.25 percent. In April 2009, a pound sterling bond was issued for £250 million, maturing in seven years, with an interest rate of 8 percent. In June 2009, new private debt was issued for €150 million. In December 2009, we refinanced €215 million of debt which matures in 2011. New debt of €225 million was issued, maturing in five years by means of extending the existing 7.25 percent bond issued in March 2009.

The table below analyzes our cash outflows per maturity group based on the remaining period at balance sheet date to the contractual maturity date. The amounts disclosed in the table are the contractual undiscounted cash flows.

Maturity of liabilities and cash outflows

 

 

 

 

In € millions

Less than
1 year

Between
1 and 5 years

Over 5 years

 

 

 

 

At December 31, 2008:

 

 

 

Borrowings

1,338

1,296

1,028

Interest on borrowings

138

490

78

Finance lease liabilities

4

17

Trade and other payables

2,985

 

 

 

 

Forward foreign exchange contracts (hedges):

 

 

 

- Outflow

2,147

653

- Inflow

(1,328)

(495)

 

 

 

 

Interest rate swaps:

 

 

 

- Outflow

16

57

- Inflow

(20)

(90)

 

 

 

 

Other derivatives:

 

 

 

- Outflow

31

50

- Inflow

(21)

 

 

 

 

Total

5,290

1,978

1,106

 

 

 

 

At December 31, 2009:

 

 

 

Borrowings

381

2,163

1,313

Interest on borrowings

236

771

93

Finance lease liabilities

3

11

Trade and other payables

2,866

 

 

 

 

Forward foreign exchange contracts (hedges):

 

 

 

- Outflow

2,372

569

- Inflow

(2,068)

(477)

 

 

 

 

Interest rate swaps:

 

 

 

- Outflow

12

47

- Inflow

(20)

(68)

 

 

 

 

Other derivatives:

 

 

 

- Outflow

103

26

- Inflow

(28)

(18)

 

 

 

 

Total

3,857

3,024

1,406

Capital risk management

Our objectives when managing capital are to safeguard our ability to satisfy our capital providers and to maintain a capital structure that optimizes our cost of capital. For this we maintain a conservative financial strategy, with the objective to remain a strong investment grade company as rated by the rating agencies Moody’s and Standard & Poor. The credit rating at year-end 2009 was Baa1/BBB+ with a negative outlook (year-end 2008: A3/A- with a negative outlook). The capital structure can be altered, among others, by adjusting the amount of dividends paid to shareholders, return capital to capital providers, or issue new debt or shares.

Consistent with others in the industry, we monitor capital on the basis of funds from operations in relation to our net borrowings level (FFO/NB-ratio). The FFO/NB-ratio for 2009 at year-end amounted to 0.23 (2008: 0.29). Funds from operations are based on net cash from operating activities, which is adjusted, among others, for the elimination of changes in working capital, additional payments for pensions and for the effects of the underfunding of pension and other post-retirement benefit obligations. Net borrowings is calculated as a total of long- and short-term borrowings less cash and cash equivalents, adding an after-tax amount for the underfunding of pension benefit obligations and lease commitments.

Fair value of financial instruments and IAS 39 categories

The carrying values and estimated fair values of financial instruments are as follows:

Fair value per financial instruments category

 

 

 

 

 

 

 

 

 

 

Carrying value per
IAS 39 category

 

 

In € millions

Carrying amount

Out of scope of IFRS 7

Loans and receivables/ other liabilities

At fair value through profit or loss

Total carrying value

Fair value

 

 

 

 

 

 

 

2008 year-end:

 

 

 

 

 

 

Other financial non-current assets

757

402

315

40

355

355

Trade and other receivables

2,924

240

2,655

29

2,684

2,684

Cash and cash equivalents

1,595

1,595

1,595

1,595

 

 

 

 

 

 

 

Total financial assets

5,276

642

2,970

1,664

4,634

4,634

 

 

 

 

 

 

 

Long-term borrowings

2,341

2,341

2,341

2,376

Short-term borrowings

1,338

1,338

1,338

1,286

Trade and other payables

2,985

1,188

1,584

213

1,797

1,797

 

 

 

 

 

 

 

Total financial liabilities

6,664

1,188

5,263

213

5,476

5,459

 

 

 

 

 

 

 

2009 year-end:

 

 

 

 

 

 

Other financial non-current assets

815

414

374

27

401

416

Trade and other receivables

2,564

246

2,290

28

2,318

2,318

Cash and cash equivalents

2,128

2,128

2,128

2,128

 

 

 

 

 

 

 

Total financial assets

5,507

660

2,664

2,183

4,847

4,862

 

 

 

 

 

 

 

Long-term borrowings

3,488

3,488

3,488

3,848

Short-term borrowings

384

384

384

384

Trade and other payables

2,866

1,231

1,523

112

1,635

1,635

 

 

 

 

 

 

 

Total financial liabilities

6,738

1,231

5,395

112

5,507

5,867

Loans and receivables and other liabilities are recognized at amortized cost, using the effective interest method. We estimated the fair value of our long-term borrowings based on the quoted market prices for the same or similar issues or on the current rates offered to us for debt with similar maturities.

The carrying amounts of cash and cash equivalents, receivables less allowance for impairment, short-term borrowings and other current liabilities approximate fair value due to the short maturity period of those instruments.

We have not applied the fair value option allowed under IFRS. As from 2009, we have reported certain energy purchasing contracts as held for trading. The only financial instruments accounted for at fair value through profit or loss are derivative financial instruments and the short-term investments included in cash. The fair value of foreign currency contracts, swap contracts, forward rate agreements, oil contracts and gas futures was determined by valuation techniques using market observable input (such as foreign currency interest rates based on Reuters) and by obtaining quotes from dealers and brokers.

The following valuation methods for financial instruments carried at fair value through profit or loss are distinguished:

  • Level 1: quoted prices (unadjusted) in active markets for identical assets or liabilities
  • Level 2: inputs other than quoted prices included within level 1 that are observable for the asset or liability, either directly (i.e. as prices) or indirectly (i.e. derived from prices)
  • Level 3: inputs for the asset or liability that are not based on observable market data (unobservable inputs).

All fair values of financial instruments carried at fair value through profit or loss in the table above are level 2 valuation methods.

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