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24. Financial risk management

Financial risk management principles








The task of financial risk management is to identify, manage and track the major financial risks in the Group’s business and business environment to enable the Group to achieve its strategic and financial goals in the best possible way. The responsibilities of the Board of Directors include ensuring that the Group has adequate internal monitoring system in place. Group’s policy for hedging against risks is approved by the Board of Directors and the Group’s CFO is responsible for implementing it in practice. The objective of the Group’s financial risk management is to minimise the effects of volatility for recognised major market risks on the Group’s result and balance sheet. Tecnotree Group does not apply hedge accounting as defined under IAS 39.








Financial risk management organisation








The financial risk management process is supported by the Management Board, who handles risks and risk management in its meetings on a regular basis. CEO reports the major risks to the Board of Directors. The Group’s financial management is responsible for managing foreign exchange, interest rate and liquidity risks according to the guidelines set by the Board.








Capital management








Tecnotree’s objective for capital management is to ensure cash sufficiency and support Group’s growth targets. Additionally, with capital management the Group is ensuring the operational precondition in capital markets during all conditions irrespective of industry’s market volatility. The key ratio in monitoring the development of Group’s capital structure is equity ratio, which is calculated by dividing equity with total balance sheet less advances reveiced.








In August 2015, the company's Board of Directors recognised the loss of shareholders’ equity of the Group’s parent company Tecnotree Corporation and delivered a statement concerning the matter to the Trade Register. The parent company’s shareholders’ equity was EUR 3,067 thousand negative on 31 December 2017 (EUR 1,204 thousand negative) and the Group’s shareholders’ equity was EUR 6,089 million positive (EUR 10,684 million positive).
















Components of equity ratio
EUR 1,000 2017 2016








Equity at the end of period -6,089 10,684




Balance sheet total



31,847 59,763
Advances received


Total balance sheet less advances reveiced 31,847 59,763








Equity ratio -19.1% 17.9%
















Liquidity risk








The Group seeks to constantly assess and monitor the amount of liquid funds to ensure the sufficient amount of funding needed to finance the business.


On the reporting date, the Group’s cash and cash equivalents were EUR 2,293 (3,503) thousand.








At the end of the financial year, the company had a short-term loan of EUR 166 thousand. The company had in accordance to the payment program secured interest-bearing liabilities to financial institutions EUR 9,654 thousand, business mortgage debts EUR 7,881 thousand as well as restruturing debts EUR 4,396 thousand.








The cash flow situation of the company has continued to be critical. In long-term projects. The billing of the receivablen can take place with a long delay. This delay increases the risk associated with payments.








The cash flow varies considerably from one quarter to another, and this in turn places strain on the money situation.








2017 Balance sheet value Cash flow Due Less than
3 months
3-12
months
1-3 years Over 3 years








Guaranteed restructuring debts from financial institutions, interest-bearing 17,853 17,853
465 465 6,652 10,272
Interest payments on the loans 1,243 1,243
1,243


Trade payables 5,498 5,498 2,946 640 333 1,579
Non-interest bearing liabilities 4,396 4,396

400 1,205 2,791
Derivative liabilities 128 128

128

Total 29,118 29,118 2,946 2,348 1,326 9,436 13,063








Of the overdue account payables, EUR 1.5 million was more than 90 days due.














2016 Balance sheet value Cash flow Due Less than
3 months
3-12
months
1-3 years over 3 years








Guaranteed restructuring debts from financial institutions, interest-bearing 23,521 23,521 725 725 818 2,799 19,179
Interest payments on the loans
1,279 122 122 1,157

Trade payables 7,340 7,340 4,915 4,915 222 2,202
Non-interest bearing liabilities 4,396 4,396

150 793 3,453
Derivative liabilities 314 314 38 38 76 200
Total 35,571 36,850 5,800 5,800 2,424 5,995 22,631
















Credit risk








Credit risk arises from the potential failure of counterparty to meet its contractual payment obligations. The amount of risk depends on the creditworthiness of the counterparty. The amount of credit risk inherent to financial instruments is the carrying value of the financial assets, which was EUR 17,587 (17,278) thousand at the reporting date. The financial assets are specified in note 25. The most significant separate item of credit risk is the trade receivables.








The credit quality of customers is regularly monitored by the finance department together with sales management, using data on payment history and reports from external sources. Credit rating checks are made on new customers before confirming an offer. The procedure for granting of credit for new customers or customers from countries with high risk rating requires always the acceptance of Group CFO. Tecnotree has not arranged financing for customers with third parties.








Tecnotree’s largest customers are much bigger businesses than the Group itself. The relationship between the Group and its major customers is one of interdependence, which poses a potential risk but also offers significant new business opportunities. The two largest customers accounted for 86 % of net sales in 2016 (2016: 77 %) and for 88 % of the trade receivables at the end of 2017 (2016: 80 %). Parent companies of these customers are large listed companies which credit ratings in February 2017 were A3 and Baa3 respectively according to Moody's rating. In addition, the customers of Tecnotree are mainly in developing markets, with consequenses such as currency transfer regulations and limitations, exchange rate fluctuations and other politic and financial challanges.








The credit quality of financial institutions is monitored by the finance department. The parent company’s counterparties are restricted to financial institutions with legal entities in Finland specified in the Group’s cash management policy. The subsidiary in India has its own finance function and their counterparties are also restricted in the Group’s cash management policy. The amount of cash reserves in other subsidiaries is minimized.








Analysis of trade receivables by age
EUR 1,000 2017 2016








Trade receivables not due 8,694 6,592
Trade receivables 1-90 days overdue 2,756 4,288
Trade receivables 91-360 days overdue 2,856 2,428
Trade receivables more than 360 days overdue 989 467
Total 15,294 13,775








Project deliveries result in large accounts receivable. Most of Tecnotree’s net sales comes from developing countries and some of these contain political and economic challenges. There is the risk of a considerable delay in the payment of invoices in these countries and that Tecnotree will have to record credit losses. The payment record of customers and the situation concerning trade receivables are actively monitored and credit rating checks are made on new customers before confirming an offer. During the period, new impairment losses of EUR 273 (64) thousand were recorded for over one year overdue trade receivables. The above analysis of trade receivables by age shows net trade receivables, thus after recognition of impairment losses.
















Market risks








Currency risk








The financial risk to which the Group is exposed in its operations is mainly currency risk. Changes in exchange rates create risks especially in receivables and order backlog. Tecnotree Group’s reporting and presentation currency is Euro, but significant part of Group’s revenue is in US dollars. The Group’s open translation risk comes from the investments in six foreign subsidiaries, India (Rupees, INR), Brazil (Real, BRL), Argentina (Peso, ARS), Malaysia (Ringgit, MYR), The United Arab Emirates (Dirham, AED) and Nigeria (Naira, NGN).








Transaction risk








The Group’s open currency position comprises foreign currency denominated, sales related balance sheet items, cash and cash equivalents balance, currency denominated order backlog and binding currency denominated purchase and sales contracts.








In the policy for approval of sales contracts, it is required that only the Euros or the US dollar can be used as the sales currency. There shall not be any clauses tying the payments into any other currencies. Sales offices, when selling within their own country, use their own local currency. If any other currencies than Euro, US dollar or sales offices’ local currency are used in sales contracts, it requires a prior written approval from the group CFO.








In 2017, 24 per cent of external invoicing was in Euros, 56 per cent in US dollars, 9 per cent in Argentinian Pesos, 8 per cent in Nigerian Nairas, and 3 per cent in other currencies. The Group is hedging the open US dollar currency position. The Group does not hedge the open ARS, NGN and BRL currency positons, partly because of local currency restrictions and high cost of hedging. Sales in BRL and purchases related to them form adequate operative hedging and therefore hedging instruments are not used. The open INR currency position is hedged when it is seen necessary. On the reporting date the Group had no such INR hedges. The Group does not hedge the other currency position positons, since they are not significant.








Currency risks can also arise on intra-group currency positions. The Indian subsidiary has intragroup receivables denominated in EUR, on which exchange rate gains amounting to EUR 148 thousand arose due to rate changes of Indian Rupies (2016: exchange rate lossed of EUR 1,043 thousand). Also the intra-group liabilities denominated in BRL held by the parent company gave rise to exchange rate gains of EUR 7 thousand in 2017 (2016: exchange rate losses of EUR 904 thousand). Similarly, EUR dominated intragroup receivables from Nigeria gave rise to exchange rate lossed of EUR 437 thousand and AED dominated intragroup receivables from UAE exchange rate losses of EUR 640 thousand. Intra-group currency positions are not hedged.








The Group is hedging the US dollar currency denominated cash flow position for a maximum period of 12 months for not more than 100 per cent of the net position. Hedging is carried into effect with foreign exchange forwards and options. On the reporting date, 0 per cent (0 %) of the open currency position was hedged.








US dollar denominated cash inflow is mainly converted into Euros. Some cash reserves are held in US dollar in order to manage forthcoming US dollar payments.








Sensitivity analysis for market risks














The functional currency of the parent company is Euro. Financial assets and liabilities nominated in foreign currency are presented in the table below. Figures are translated to Euros at the year-end exchange rate.











2017 2016 2017 2016
EUR 1,000 Note INR INR USD USD








Current assets
Trade and other receivables 18 9,440 4,532 3,213 7,193
Other receivables related to construction contracts 18

1,927 9,745
Cash and cash equivalents 19

317 2,098
Trade and other payables 23 -121 -121 -397 -2,851
Total current assets

9,319 4,411 5,059 16,184
















In the sensitivity analysis below, the effect of weakening and strengthening of the INR and USD exchange rate against EUR is presented with all other factors remaining unchanged. The analysed change in the exchange rate represents a possible volatility of the currency during a 12-month period. Fluctuation in exchange rates has no direct effect on equity as the Group does not apply hedge accounting.








EUR 1,000 2017 2016








Change in percentage, INR -10% +10% -10% +10%
Effect on the result after taxes 641 -641 280 -280








Change in percentage, USD -10% +10% -10% +10%
Effect on the result after taxes -460 562 -1,471 1,798








Translation risk








Tecnotree India and its subsidiaries are consolidated into Tecnotree Group as from 6 May 2009, hence the Group is exposed to the risks incurred when the net investments denominated in INR are translated into Euro, the functional currency of the parent company. On the reporting date, the open translation risk for the Indian subgroup was EUR 20,512 (21,948) thousand. This net investment is not hedged, mainly because of local currency restrictions and high cost of hedging. The sensitivity for trnslation risk was analysed by determining the effects of 10 percent strengthening and wakening of the INR exchange rate against EUR, all other factors remaining unchanged.











2017 2016
EUR 1,000 INR INR INR INR








Change in percentage -10% +10% -10% +10%
Effect on the result after taxes 2,569 -3,140 2,653 -3,242
Effect on equity -1,865 2,279 -1,995 2,439








During 2017 Indian Rupie weakened 7 per cent compared to Euro, INR/EUR rate being 76.6055 at the end of 2017 and 71.5935 at the end of 2016. This gave rise to a negative translation difference in the Group's equity amounting to EUR 1,595 thousand negative.
The exposure for translation risk related to net investments in other foreign subsidiaries is not significant and is therefore neither hedged nor analysed for sensitivity. However, during 2017, Brazilian Real (BRL) and Argentinian Peso (ARS) changed exceptionally compared to Euro. The EUR/BRL rate strenghened 8 per cent being 3.9729 at the end of 2017 and 4.4305 at the end of 2016, which caused a positive translation difference of EUR 283 thousand in Group's equity. The EUR/ARS rate weakened 34 per cent being 22.339 at teh end of 2017 and 16.6814 at the end of 2016, which caused a negative translation difference EUR 206 thousand in Group's equity. On the reporting date, the open translation risk position for the Brazilian subsidiary was EUR - 1,798 (-2,089) thousand, for the Argentine subsidiary EUR 736 (789) thousand.


On the reporting date, the open translation risk position for the Malaysian subsidiary was EUR 114 (133) thousand, for the Nigeria subsidiary EUR -943 (-283) thousand and correspondingly for the subsidiary in the United Arab Emirates EUR -1,413 (-403) thousand, The change in translation difference in equity caused by fluctuations in exchange rates for these subsidiaries was EUR 295 (6) thousand.








Interest rate risk








The Group’s interest rate risk management focuses on the optimal management of liquid funds in sense of profitability and safety and interest rate risk management of bank loans.


At the end of the financial period, the company had interest-bearing loans from financial institutions EUR 17.8 (23.9) million. This included 17.6 (23.5) million loan as part of debt restructuring programme and EUR 0.2 (0.4) million other short-term credi


Interest rate sensitivity was analysed by determining the effects of one percentage unit’s change in the interest rates on the Group’s interest-bearing financial instruments on an annual level. The analysis included all the significant interest-bearing financial instruments of the Group totalling EUR 15,408 (20,418) thousand debt. On the reporting date, an increase / decrease of one percentage unit in the interest rates would have decreased / increased the net income after tax by EUR -96 / 96 (-109 / 109) thousand. Changes in interest rates would not have had a direct effect on equity. The effect of an increase and a decrease in the interest rates is presented with all other factors remaining unchanged.


Price risk








Tecnotree Group does not own any equity or other financial instruments with values tied to other market prices than interest or currency rates.