Due to the nature of its business, the Group is exposed to a variety of risks, notably market risks, credit risk, liquidity risk, industrial and environmental risks and regulatory risk. In order to limit its exposure to these risks, the Group analyzes, monitors, manages and controls them as described in this section.
From an organizational standpoint, over the last year specific risk management policies were developed for each category of risk, identifying management and control roles and responsibilities. More specifically, the governance model for financial, commodity and credit risks was consolidated. In addition to setting out specific policies, the model assigns strategic policy-making responsibilities for risk management activities and supervision of risk management and control activities to special risk committees, both at the Group level and at the division/company level, and establishes the structure of an operational limits system for the Group and, if necessary, for the individual divisions/companies.
Risks connected with market liberalization and regulatory developments
The energy markets in which the Group operates are currently undergoing gradual liberalization, which is being implemented using different approaches and timetables from country to country.
As a result of these processes, the Group is exposed to increasing competition from new entrants and the development of organized markets.
The business risks generated by the natural participation of the Group in such markets have been addressed by integrating them along the value chain, with a greater drive for technological innovation, diversification and geographical expansion. More specifically, the initiatives taken have increased the customer base in the free market, with the aim of integrating downstream into final markets, optimizing the generation mix, improving the competitiveness of plants through cost leadership, seeking out new high-potential markets and developing renewable energy resources with appropriate investment plans in a variety of countries.
The Group often operates in regulated markets or regulated regimes, and changes in the rules governing operations in such markets and regimes, and the associated instructions and requirements with which the Group must comply, can impact our operations and performance.
In order to mitigate the risks that such factors can engender, Enel has forged closer relationships with local government and regulatory bodies, adopting a transparent, collaborative and proactive approach in tackling and eliminating sources of instability in regulatory arrangements.
Risks connected with CO2 emissions
In addition to being one of the factors with the largest potential impact on Group operations, emissions of carbon dioxide (CO2) are also one of the greatest challenges facing the Group in safeguarding the environment.
EU legislation governing the emissions trading scheme imposes costs for the electricity industry, costs that could rise substantially in the future. In this context, the instability of the emissions allowance market accentuates the difficulties of managing and monitoring the situation. In order to mitigate the risk factors associated with CO2 regulations, the Group monitors the development and implementation of EU and Italian legislation, diversifies its generation mix towards the use of low-carbon technologies and resources, with a focus on renewables and nuclear power, develops strategies to acquire allowances at competitive prices and, above all, enhances the environmental performance of its generation plants, increasing their energy efficiency.
As part of its operations, Enel is exposed to a variety of market risks, notably the risk of changes in interest rates, exchange rates and commodity prices.
To maintain this risk within the limits set out each year in the Group’s risk management policies, Enel uses derivatives obtained in the market.
Risks connected with commodity prices and supply continuity
Given the nature of its business, Enel is exposed to changes in the prices of fuel and electricity, which can have a significant impact on its results.
To mitigate this exposure, the Group has developed a strategy of stabilizing margins by contracting for supplies of fuel and the delivery of electricity to end users or wholesalers in advance.
The Group has also implemented a formal procedure that provides for the measurement of the residual commodity risk, the specification of a ceiling for maximum acceptable risk and the implementation of a hedging strategy using derivatives.
For a more detailed examination of commodity risk management and the outstanding derivatives portfolio, please see note 6 of the consolidated financial statements.
In order to limit the risk of interruptions in fuel supplies, the Group has diversified fuel sources, using suppliers from different geographical areas and encouraging the construction of transportation and storage infrastructure.
Exchange rate risk
The Group is exposed to the risk that changes in the exchange rates between the euro and the main other currencies could give rise to adverse changes in the euro value of performance and financial aggregates denominated in foreign currencies. The exposure to exchange rate risk, which is mainly denominated in US dollars, is attributable to:
- cash flows in respect of the purchase or sale of fuel or electricity on international markets;
- cash flows in respect of investments in foreign currency, dividends from unconsolidated foreign subsidiaries or the purchase or sale of equity investments;
- financial liabilities assumed by the Parent Company or the individual subsidiaries denominated in currencies other than the currency of account or functional currency of the company holding the liability;
- financial assets/liabilities measured at fair value.
The consolidated financial statements are also exposed to the exchange rate risk associated with the consolidation values of equity investments denominated in currencies other than the euro (translation risk).
Exchange rate risk is managed within the Group policies for managing financial risks, which provide for the stabilization of the effects of changes in exchange rates with the exclusion of translation risk. To this end, the Group has developed operational processes that ensure the systematic coverage of exposures through appropriate hedging strategies, which typically involve the use of financial derivatives.
For more details, please see note 6 of the consolidated financial statements.
Interest rate risk
The nature of the financial risks to which the Group is exposed is such that changes in interest rates could give rise to increases in net financial expense or adverse changes in the value of assets/liabilities measured at fair value.
The main source of exposure to interest rate risk for the Enel Group comes from the fluctuation in the interest rates associated with its floating-rate debt and from the need to refinance debt falling due on changing market terms and conditions.
Our interest rate risk management policy seeks to maintain the risk profile established within the framework of the formal risk governance procedures of the Group, curbing borrowing costs over time and limiting the volatility of results.
This goal is pursued through the strategic diversification of the nature of our financial assets and liabilities and the use of derivatives on over-the-counter markets.
For more details, please see note 6 of the consolidated financial statements.
The Group’s commercial, commodity and financial operations expose it to credit risk, i.e. the possibility that an unexpected change in the creditworthiness of a counterparty could impact the creditor position, in terms of insolvency (default risk) or changes in its market value (spread risk).
Recent economic conditions, with the instability and uncertainty of the financial markets and the global economic crisis, have given rise to an increase in average payment times by counterparties.
In order to continue to minimize credit risk, the Group’s general policy calls for an assessment of the creditworthiness of the counterparties – on the basis of internal rating models developed on a statistical basis and information supplied by external providers – and the structured monitoring of risk exposures to promptly identify any deterioration in credit quality, including with respect to specified limits. These methods have been implemented in all the main divisions/countries, with the application of uniform risk measurement metrics that enable the consolidation and monitoring of credit risk exposure at the Group level.
As regards credit risk in respect of the solvency of counterparties in commodity transactions, the Group’s Credit Risk Committee has approved, in addition to a new centralized assessment system that enhances risk monitoring and management, the use of portfolio limits both for the divisions/ countries involved and at the Group level.
As to credit risk in respect of open positions in financial transactions, including those involving derivatives, and in the light of the recent downgrades made by international rating agencies, risk is minimized by selecting counterparties with high credit ratings from among leading Italian and international financial institutions, portfolio diversification, entering into margin agreements for the exchange of cash collateral, or the use of netting arrangements. The credit risk is measured at both the individual counterparty level and the portfolio level using an internal valuation system in this case as well.
To manage credit risk even more effectively, for a number of years the Group has carried out non-recourse assignments of receivables, mainly specific segments of the commercial portfolio. More specifically, in 2011 a five-year framework agreement was reached with two leading banks for the ongoing non-recourse assignment of invoiced receivables and receivables to be invoiced in respect of customers in the enhanced protection market in Italy.
In subsequent years, partly in view of the macroeconomic environment, the use of assignments was extended both geographically and to invoiced receivables and receivables to be invoiced of companies operating in other segments of the electricity industry than retail sales (such as, for example, receivables from generation activities, sales of electricity as part of energy management operations, the sale of green certificates or electricity transport services).
All of the above transactions are considered as non-recourse transactions for accounting purposes and therefore involved the full derecognition of the corresponding assigned assets from the balance sheet, as the risks and rewards associated with them have been transferred.
Liquidity risk is the risk that the Group, while solvent, would not be able to discharge its obligations in a timely manner or would only be able to do so on unfavorable terms owing to factors connected to the perception of its riskiness by the market or to systemic crises (credit crunches, sovereign debt crises, etc.).
As part of the Group’s formal risk governance procedures, risk management policies are designed to maintain a level of liquidity sufficient to meet its obligations over a specified time horizon without having recourse to additional sources of financing, as well as to maintain a prudential liquidity buffer sufficient to meet unexpected obligations. In addition, in order to ensure that the Group can discharge its medium and long-term commitments, Enel pursues a borrowing strategy that provides for a diversified structure of financing sources to which it can turn and a balanced maturity profile. Liquidity requirements are primarily met through cash flows generated by normal operations, ensuring the appropriate management of any excess liquidity.
In order to optimize liquidity management within the Group, Enel SpA (directly and through its subsidiary Enel Finance International NV) meets the cash needs of the Group companies through centralized access to the money and capital markets and provides management and coordination services for Group companies that can access market financing directly.
Underscoring the Enel Group’s continued capacity to access the credit market despite the recent crisis in the financial markets, in 2013 the Group carried out bond issues with institutional investors totaling €2.6 billion and bond issues within the framework of the Global Medium-Term Notes program totaling €0.5 billion.
For more details, please see note 6 of the consolidated financial statements.
Credit ratings, which are assigned by rating agencies, impact the possibility of a company to access the various sources of financing and the associated cost of that financing. Any reduction in the rating could limit access to the capital market and increase finance costs, with a negative impact on the performance and financial situation of the company.
In 2013, Standard & Poor’s revised the Enel Group’s longterm rating following the agency’s downgrade of the rating of the Italian Republic, in reflection of the deterioration of macroeconomic conditions in the country. The stable outlook reflects the agency’s expectations that Enel will achieve and maintain performance and financial targets commensurate with its current rating as a result of its continued deleveraging efforts, the large contribution of regulated activities and its good geographical and technological diversification outside Europe.
At the end of the year Enel’s rating was: (i) “BBB” for Standard & Poor’s with a stable outlook; (ii) “BBB+”, with a negative credit watch for Fitch; and (iii) “Baa2”, with a negative outlook for Moody’s.
By now, more than 50% of the revenues of the Enel Group are generated outside Italy. The major international expansion of the Group – located, among other countries, in Latin America and Russia – therefore requires the Group to assess its exposure to country risk, namely the macroeconomic, financial, regulatory, market, geopolitical and social risks whose manifestation could have a negative impact on income or jeopardize corporate assets. In order to mitigate this form of risk, the Group has adopted a country risk calculation model (using a shadow rating approach) that specifically monitors the level of country risk in the areas in which the Group operates.
From a macroeconomic point of view, in 2013 we witnessed the gradual stabilization of international markets, with the easing of restrictive fiscal policies in Europe and the continuation of expansionary monetary policies in the United States and Japan.
In Europe, austerity policies will continue to slow economic growth in 2014 as well, especially in Italy and Spain. The expansionary stance of monetary policy in the United States, which gave rise to the ongoing recovery, will probably be tapered in the coming months, given the need to reconcile growth objectives with the sustainability of the debt, while in Japan those policies are expected to be kept in place for a longer period.
In the Middle East and North Africa the political situation is marked by a degree of permanent conflict, mainly domestic, balanced by a certain easing of relations with the western world.
In emerging Asia, the leading economies (China and India) continue to be affected by the slowdown in foreign demand from the developed economies (compared with the peaks achieved prior to the crisis), which has not yet been entirely offset by growth in domestic demand.
Finally, it is reasonable to expect that the Latin American economies, despite the changes wrought with the most recent elections in Chile and Argentina, will continue to make a substantial contribution to the growth of the world economy.
Industrial and environmental risks
Breakdowns or accidents that temporarily interrupt operations at Enel’s plants represent an additional risk associated with the Group’s business.
Industrial and environmental risks are therefore managed by all business lines (Generation, Distribution, Sales and Upstream Gas) and all process phases (Business Development, Engineering Procurement and Construction, Operation and Maintenance, Decommissioning). The Group is gradually extending its risk management models to all divisions and countries in order to be able to use statistical methods to assess risks in probabilistic and monetary terms. This will make it possible to characterize each plant/network/project using specific risk factors. In addition, new models have been developed to measure the risk of natural disasters, such as earthquakes, hurricanes, flooding, landslides and major climatic events, with the objective of identifying the most critical areas and preparing appropriate instruments to safeguard the industrial value of plants.
The attention that Enel devotes to environmental issues also prompted the development of models that enable the Group to measure, in probabilistic terms, the exposure of each plant to risks involving all possible segments of the environment, such as the air, water, land and underground.
In order to mitigate such risks, the Group adopts leading prevention and protection strategies, including preventive and predictive maintenance techniques and technology surveys to identify and control risks, and recourse to international best practices.
Any residual risk is managed using specific insurance policies to protect corporate assets and provide liability coverage in the event of harm caused to third parties by accidents, including pollution, that may occur during the production and distribution of electricity and gas.
As part of its strategy of maintaining and developing its cost leadership in the markets in which it has generation operations, the Group is involved in numerous projects for the development, improvement and reconversion of its plants. These projects are exposed to the risks commonly associated with construction activities, which the Group mitigates by requiring its suppliers to provide specific guarantees and, where possible, obtaining insurance coverage against all phases of construction risk.
With regard to distribution operations, the evolution of the electrical system from a passive network to an active network as a result of the sharp increase in distributed generation has made it necessary to take a new approach to managing risks through the analysis of grid losses and the management of active distribution systems in order to ensure the stability and security of electrical system, integrating management of ordinary risks with the optimization of service quality and managing exceptional risks deriving above all from major exogenous events.
With regard to nuclear power generation, Enel operates in Slovakia through Slovenské elektrárne and in Spain through Endesa. In relation to its nuclear activities, the Group is exposed to operational risk and may face additional costs because of, inter alia, accidents, safety violations, acts of terrorism, natural disasters, equipment malfunctions, malfunctions in the storage, movement, transport and treatment of nuclear substances and materials. In the countries where Enel has nuclear operations, specific laws based on international conventions require operators to obtain insurance coverage for liability for risks associated with the use and transport of nuclear fuel, with coverage ceilings and other terms and conditions set by law. Other mitigating measures have been taken in accordance with international best practices.