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Note 24 Financial risk management

Risk management principles and process

Stora Enso is exposed to several financial market risks that the Group is responsible for managing under policies approved by the Board of Directors. The objective is to have cost-effective funding in Group companies and manage financial risks using financial instruments to reduce earnings volatility. The main exposures for the Group are interest rate risk, currency risk, funding risk and commodity price risk, especially for fibre and energy.

The Stora Enso Group Financial Risk Policy governs all financial transactions in Stora Enso. This policy and any future amendments take effect once they are approved by the Board of Directors and all policies covering the use of financial instruments must comply with it. The major financial market risks are detailed below. Group’s joint operations companies operate under their own financial risk policies, which may not be fully similar to Group’s policies.

Interest rate risk

Fluctuations in interest rates affect the interest expense of the Group. The Group’s aim is to keep interest costs stable. The Group’s aggregate duration should not exceed the average loan maturity, but should aim towards a longer duration. A duration above the average loan maturity is approved by the Board of Directors.

As of 31 December 2017, one percentage point parallel change up or down in interest rates would impact annual net interest expenses by EUR 5 (EUR 5) million, assuming that the duration and the funding structure of the Group remain constant throughout the year. This simulation calculates the interest effect of a 100 basis point parallel shift in interest rates on all floating rate instruments from their next reset date to the end of the year. In addition, all short-term loans maturing during the year are assumed to be rolled over on maturity to year end using the new higher interest rate.

The total Group floating rate net interest-bearing liability position, excluding cash and cash equivalents but including floating legs of interest rate swaps, amounts to some EUR 0.7 (EUR 0.7) billion. The average interest reset period for Group net interest-bearing liabilities, including all interest rate derivatives but excluding cash and cash equivalents, is some 4.2 (3.4) years. A one percentage point parallel change up or down in interest rates would also result in gains or losses of EUR 13 (EUR 15) million before taxes in Cash flow hedge reserve in OCI regarding interest rate swaps under cash flow hedge accounting. Note 27 Derivatives summarises the nominal and fair values of the outstanding interest rate derivative contracts.

Currency transaction risk

The Group is exposed to currency risk arising from exchange rate fluctuations against its reporting currency, the euro. The major currency transaction risk is the impact of exchange rate fluctuations on the group Income statement, which is the effect of currency rates on expected future cash flows. The Group policy to mitigate this is to hedge 50% of the forecast major currency cash flows for 12 months.

The principal foreign exchange transaction exposure comprises both the geographical location of Stora Enso production facilities and the sourcing of raw material and sales outside the euro area, mainly denominated in Swedish crowns, US dollars and British pounds.

The table below presents the estimated net operative foreign currency exposure for the main currencies, for the next 12 months and the related hedges in place as at 31 December, retranslated using year end exchange rates. The net operative receivables and payable exposures, representing the balances as at 31 December, include foreign currency exposures generated by external and intercompany transactions, in line with the requirements of IFRS 7. However, in practice mainly external exposures have been hedged through currency hedges. A positive amount of exposure in the table represents an estimated future receivable of a foreign currency amount.

Operative foreign currency exposure
As at 31 December 2017 As at 31 December 2016
EUR million SEK USD GBP BRL CZK SEK USD GBP BRL CZK
Estimated annual net cash flow exposure -960 1 260 360 - -180 -870 1 290 320 - -180
Cash flow hedges next 12 months 510 -630 -180 - 60 450 -660 -170 - 80
Estimated Annual Net Cash Flow Exposure, Net of Hedges -450 630 180 - -120 -420 630 150 - -100
Hedging Percentage as at 31 December for Next 12 Months 53% 50% 50% - 33% 52% 51% 53% - 44%
Translation exposure in Income Statement1 -150 -190 10 -120 - -300 -230 10 -150 10
Operative receivables and payables exposure 56 175 27 -17 -28 35 112 19 -8 -26
Currency hedges 50 -138 -33 - - 64 -146 -24 - -
Statement of Financial Position Exposure, Net of Hedges 106 37 -6 -17 -28 99 -34 -5 -8 -26
Estimated Annual Operative Exposure, Net of Hedges -494 477 184 -137 -148 -621 366 155 -158 -116
1 Includes unhedged sales, costs and depreciation invoiced or expensed in the domestic currency of non-euro based entities, retranslated using year end exchange rates.

The table below includes the estimated effect on annual Operating Profit of a strengthening in EUR versus SEK, USD, GBP and CZK by 5% and versus BRL by 10%, as reasonably possible changes in rates, measured against year end closing rates. A corresponding decrease in the exchange rates would have an approximately equal opposite impact. A negative amount in the table reflects a potential net loss in the Income statement or Equity and, conversely, a positive amount reflects a potential net gain. In practice, the actual foreign currency results may differ from the sensitivity analysis presented below since the Income Statements of subsidiaries with functional currencies other than the euro are translated into the Group reporting currency using the average exchange rates for the year, whereas the Statements of financial position of such subsidiaries, including currency hedges, trade receivables and payable, are translated using the exchange rates at the reporting date.

The calculation includes currency hedges and assumes that no changes other than a single currency exchange rate movement have taken place. The currency effects are based on estimated operative foreign currency flows for the next twelve months, hedging levels at the year end and the assumption that the currency cash flow hedging levels, translation exposure in Income statement and all other variables will remain constant during the next twelve months. Hedging instruments include foreign exchange forward contracts and foreign exchange options. Indirect currency effects with an impact on prices and product flows, such as a product becoming cheaper to produce elsewhere, have not been considered in this calculation.

Estimated currency effects of strengthening of EUR
As at 31 December 2017 As at 31 December 2016
EUR million SEK USD GBP BRL CZK SEK USD GBP BRL CZK
Currency change versus EUR -5% -5% -5% -10% -5% -5% -5% -5% -10% -5%
Effect on estimated annual net cash flow and translation exposure 56 -54 -19 12 9 59 -53 -17 15 9
Effect on hedging reserve before taxes as at year end1 -26 32 9 - -3 -23 33 9 - -4
EBIT impact as at year end2 -5 -2 - 2 1 -5 2 - 1 1
Estimated Annual EBIT Impact3 25 -24 -10 14 7 31 -18 -8 16 6
1 The effect on hedging reserve (other comprehensive income) before taxes at year end is related to the fair value change in derivatives contracts qualifying as cash flow hedges of highly probable forecast cash flows.
2 The Operating Profit impact as at year end represents the estimated currency effect related to operative payables and receivables, and the net of hedges.
3 The estimated annual Operating Profit impact includes currency effects in respect of operative exposures in the Statement of Financial Position, forecast cash flows and related hedges and translation exposure in Income Statement.

The table below presents the financial foreign currency exposure and the related hedges in place as at 31 December for the main currencies. Net debt includes loan payables and related interest rate derivatives, net of loan receivables and cash and cash equivalents. The currency derivatives mainly hedge financial exposures in the Statement of financial position and from time to time they also forecast cash flows not qualifying under hedge accounting. These forecast cash flows are not included in the below table. A negative amount of exposure in the table represents a net payable of a foreign currency amount.

Additionally, the table includes the estimated effect on the Income statement of a strengthening in the EUR versus SEK, USD, CNY and PLN by 5% and versus BRL by 10%, as reasonably possible changes in rates, measured against year-end closing rates. A corresponding decrease in the exchange rates would have an approximately equal opposite impact. A negative amount in the table reflects a potential net loss in the Income statement and, conversely, a positive amount reflects a net potential gain. In practice, the actual foreign currency results may differ from the sensitivity analysis below as the exposure amounts may change during the year.

Financial foreign currency exposure and estimated currency effects in income statement
As at 31 December 2017 As at 31 December 2016
EUR million SEK USD CNY PLN BRL SEK USD CNY PLN BRL
Net debt excluding hedges 420 -347 472 161 - 655 -470 538 199 61
Currency hedges -530 -28 -86 - - -754 -54 -96 - -
Net Financial Exposure -110 -375 386 161 - -99 -524 442 199 61
Currency change versus EUR -5% -5% -5% -5% -10% -5% -5% -5% -5% -10%
Effect in the Income Statement 6 19 -19 -8 - 5 26 -22 -10 -6

Currency translation risk

Translation risk results from fluctuations in exchange rates affecting the value of Stora Enso’s net foreign currency denominated assets and liabilities. Translation risk is reduced by funding assets, whenever economically possible, in the same currency as the asset.

The Statements of financial position of foreign subsidiaries, equity accounted investments and foreign currency denominated available-for-sale investments are translated into euros using exchange rates prevailing on the reporting date, thus exposing consolidated group equity to fluctuations in currency rates. The resulting translation differences, along with other movements such as the translation rate difference in the Income statement, are recorded directly in Shareholders’ Equity, though these cumulative differences materialise through the Income statement on the disposal, in whole or in part, for the foreign entity. The next table shows the translation exposure on equity before and after hedges. 

Translation risk and hedges: 2017
As at 31 December
EUR million Euro area USD area2 Sweden China Poland Brazil Other Total
Translation Exposure on Equity 2 011 1 242 1 372 400 306 391 286 6 008
EUR/USD hedges1 292 -292 - - - - - -
Translation Exposure after Hedges 2 303 950 1 372 400 306 391 286 6 008
1 USD denominated bonds classified as hedges of investments in foreign assets.
2 Includes the joint operation Montes del Plata in Uruguay, which has USD as its functional currency.
Translation risk and hedges: 2016
As at 31 December
EUR million Euro area USD area2 Sweden China Poland Brazil Other Total
Translation Exposure on Equity 2 104 1 326 879 480 267 462 288 5 806
EUR/USD hedges1 332 -332 - - - - - -
Translation Exposure after Hedges 2 436 994 879 480 267 462 288 5 806
1 USD denominated bonds classified as hedges of investments in foreign assets.
2 Includes the joint operation Montes del Plata in Uruguay, which has USD as its functional currency.

The table below shows the effect on consolidated equity of a strengthening in the euro against the US dollar, Swedish crown, Chinese renminbi, Polish zloty and Brazilian real at 31 December. A corresponding decrease in the exchange rates would have an approximately equal opposite impact. The calculation includes the effects of currency hedges of net investments in foreign entities and assumes that no changes take place other than a single currency exchange rate movement on 31 December each year. The exposures used in the calculations are the foreign currency denominated equity and the hedging levels at 31 December. The hedging instruments used may be foreign currency forward contracts, currency options and foreign currency denominated borrowings. Full details of actual CTA movements and hedging results are given in Note 28 Cumulative translation adjustment and equity hedging.

Consolidated equity: Currency effects of strengthening of EUR before tax
As at 31 December 2017 As at 31 December 2016
EUR million Before Hedges Hedges Net Impact Before Hedges Hedges Net Impact
By 5% versus SEK -69 - -69 -44 - -44
By 5% versus USD -62 15 -47 -66 17 -49
By 5% versus CNY -20 - -20 -24 - -24
By 5% versus PLN -15 - -15 -13 - -13
By 10% versus BRL -39 - -39 -46 - -46
Total Effect from Above -205 15 -190 -193 17 -176

Liquidity and refinancing risk 

Funding risk arises from the difficulty of obtaining finance for operations at a given point in time. Stora Enso’s funding policy states that the average maturity of outstanding loans and committed credit facilities covering short-term borrowings should be at least four years. The policy further states that the group must have committed credit facilities to cover planned funding needs, the current portion of long-term debt, commercial paper borrowings and other uncommitted short-term loans.

Refinancing risk, or the risk that maturing debt is not refinanced in the market, is mitigated by Stora Enso’s target of maintaining an even maturity profile of outstanding debt.

The table below shows Group contractual undiscounted interest-bearing financial liabilities, to be settled on a net cash basis, classified under principal headings based on the remaining period to contractual maturity at the reporting date. Forward rates were used at the point of estimation for contractual finance charges.

Contractual maturity repayments of interest-bearing liabilities, settlement net: 2017
EUR million 2018 2019 2020 2021 2022 2023+ Total
Bond loans 137 221 - - - 994 1 352
Loans from credit institutions 202 185 183 122 127 210 1 029
Financial lease liabilities 28 - - - - 1 29
Other non-current liabilities 3 3 - - - - 6
Non-current Debt including Current Portion 370 409 183 122 127 1 205 2 416
Less fair value adjustments to carrying amounts 3 7 4 3 3 8 28
Estimated contractual finance charges 98 82 63 58 51 310 662
Contractual Repayments on Non-Current Debt 471 498 250 183 181 1 523 3 106
Short-term borrowings, carrying amounts 525 - - - - - 525
Contractual finance charges 16 - - - - - 16
Bank overdrafts 4 - - - - - 4
Total Contractual Repayments at 31 December 2017 1 016 498 250 183 181 1 523 3 651

Contractual maturity repayments of interest-bearing liabilities, settlement net: 2016
EUR million 2017 2018 2019 2020 2021 2022+ Total
Bond loans 265 237 475 - - 728 1 705
Loans from credit institutions 254 227 173 314 143 323 1 434
Financial lease liabilities 28 27 - - - 1 56
Other non-current liabilities 5 7 - - - - 12
Non-current Debt including Current Portion 552 498 648 314 143 1 052 3 207
Less fair value adjustments to carrying amounts - 5 4 4 3 11 27
Estimated contractual finance charges 125 109 93 59 50 352 788
Contractual Repayments on Non-Current Debt 677 612 745 377 196 1 415 4 022
Short-term borrowings, carrying amounts 452 - - - - - 452
Contractual finance charges 12 - - - - - 12
Bank overdrafts 4 - - - - - 4
Total Contractual Repayments at 31 December 2016 1 145 612 745 377 196 1 415 4 490

Financial transactions counterparty credit risk

Financial counterparty risk is Stora Enso’s exposure on financial contracts arising from a deterioration in counterparties’ financial health.

This risk is minimised by:

  • entering into transactions only with leading financial institutions and with industrial companies that have a good credit rating;
  • investing in liquid cash funds only with financial institutions or companies that have a minimum rating of BBB-, with at least 50% of liquidity investments in funds with a minimum rating of A-, using Standard and Poor’s credit rating symbols;
  • requiring parent company guarantees when dealing with any subsidiary of a rated company. 

The Group Financial Risk Policy defines the limits for accepted counterparty risk, based on the tenor of financial contract and counterparty’s credit rating.

At the year end in 2017, there were no significant concentrations of risk with respect to counterparties of derivative contracts, with the highest counterparty exposure being at EUR 5 (EUR 5) million and credit rating of A+ (A) using Standard and Poor’s credit rating symbols.

Raw material and energy price risk

Group earnings are exposed to commodity and energy price volatility. Financial energy hedges are part of the total energy price risk management in the group, whilst commodity risks are measured and hedged if economically possible. A 10% movement in energy and raw material prices would result in a EUR 27 (EUR 34) million change in the fair value of energy and raw material hedging contracts. The majority of these fair value changes, after taxes, are recorded directly in Equity under Hedging Reserves, until the contracts mature and the result is entered in the Income statement. These estimates represent only the sensitivity of the financial instruments to market risk and not the Group exposure to raw material and energy price risks as a whole, since the actual purchases are not financial instruments within the scope of the IFRS 7 disclosure requirements. At end of 2017, the maturities of the energy and commodity contracts were between one month and seven years. In 2016 the maturities ranged from one month to six years.

The bulk of the Group energy price risk has been covered by entering into long-term physical fixed price purchase agreements. The Group also has a 15.6% holding, valued at EUR 308 (EUR 242) million, in PVO, a privately owned group of companies in the energy sector. The value of these shares is dependent on energy prices and discussed in more detail in Note 14 Available-for-sale investments.

In addition, in an effort to mitigate the other commodity risk exposures, the Group is a significant shareholder in major forest companies in Finland and Sweden and so if prices increase for fibre in these countries, so do the profits from these Group interests. 

Share price risk

The Group has certain investments in publicly traded securities (Note 14 Available-for-sale investments). The market value of these equity investments was EUR 21 (EUR 42) million at the year end. Market value changes in these investments are recorded, after taxes, directly under Shareholders’ Equity in the Available-for-Sale Reserve.

Customer credit risk

Customer credit risk is Stora Enso’s exposure to contracts arising from deterioration in the financial health of customers. The Group uses various measures to reduce credit risks, including but not limited to letters of credit, prepayments and bank guarantees. The Group has also obtained export guarantees, covering both political and commercial risks, which are used in connection with individual customers outside the OECD area. Management considers that no significant concentration of credit risk with any individual customer, counterparty or geographical region exists for Stora Enso. The Age Analysis of Trade Receivables is given in Note 17 Receivables.

Capital risk management

Stora Enso’s debt structure is focused on capital markets, whereas banks are primarily used to provide back-up facilities. Group objectives when managing capital are to safeguard the ability to continue as a going concern in order to provide returns for shareholders and benefits for other stakeholders, as well as to maintain an optimal capital structure to reduce the cost of capital. In order to maintain or adjust the capital structure, the Group may, subject to shareholder approval as appropriate, vary the dividend paid to shareholders, buy its own shares on the market, return capital to shareholders, issue new shares or sell assets to reduce debt. Group strives to pay stable dividends linked to the long-term performance with the aim of distributing 50% of the net income over the cycle.

The Group monitors its capital on the basis of a target debt-to-equity ratio of 0.80 or less, and ensuring that net debt/ operational EBITDA ratio remain below 3, indicating a solid financial position, and financial flexibility. Operational EBITDA definition is included in the chapter on non-IFRS measures at the end of the Report of the Board of Directors. Key target ratios are shown below:

Capital structure
As at 31 December
EUR million 2017 2016
Interest-bearing liabilities 3 016 3 774
Interest-bearing assets 763 1 048
Interest-bearing Net Debt 2 253 2 726
Equity Attributable to Owners of the Parent 6 008 5 806
Operational EBITDA 1 587 1 463
Debt / Equity Ratio 0.38 0.47
Net Debt/ Operational EBITDA 1.42 1.86

In Montes del Plata joint operation and subsidiary Stora Enso (Guangxi) Packaging Company Ltd. have complied with financial covenants related to the debt-to-assets ratio during the reported years.

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