Below is a list of Solvay’s financial risks and how they apply to the Company:
- Liquidity risk (see note F32 Financial instruments and financial risk management to the consolidated financial statements)
- To repay and refinance financial debt on time
- To fund its business operations and generate cash from operations
- To extract cash from divestments and not over-pay acquisitions
- To preserve the Group “Investment grade” rating.
- Foreign exchange risk (see note F32 Financial instruments and financial risk management to the consolidated financial statements)
- The Group’s largest forex exposure is to the euro and US dollar
- The Group’s overall activities generate an important net positive US dollar flow; thus, a depreciation of the US dollar will generally result in lower revenues and lower profit.
- Furthermore, and to a significantly lesser extent, the Group is also exposed to the euro/Japanese yen, euro/Chinese yuan and Brazilian real/US dollar rates
- Interest-rate risk (see note F32 Financial instruments and financial risk management to the consolidated financial statements)
- Exposure to fluctuating interest rates
- Counterparty risk (see note F32 Financial instruments and financial risk management to the consolidated financial statements)
- Exposure to financial intermediates through its treasury activities and through the Group’s commercial relationships
- Pension obligation risk (see note F32 Financial instruments and financial risk management to the consolidated financial statements):
- Exposure to a number of defined benefit plans subject to fluctuations in discount rates, expected inflation rates and social security coverage and expected longevity, as well as asset/liability matching, all of which may result in a major impact on the Group’s net pension liability
- Exposure of under-funded plans to interest rate and inflation risks
- Tax litigation risk (see note F32 Financial instruments and financial risk management to the consolidated financial statements)
- Exposure to increasing tax audit queries and the introduction of changing tax regulations.
Prevention and mitigation
Financial risks are analyzed, assessed, and managed by the Corporate Finance function broadly, and more specifically, by the Treasury, Group Accounting & Reporting, and Tax departments. Loss prevention and mitigation efforts guide the Group’s financial policies and their strict monitoring:
A prudent financial profile, conservative financial discipline and strong liquidity reserves
A prudent financial profile and conservative financial discipline:
- After the acquisition of Cytec in December 2015, the two leading rating agencies confirmed the Group’s Investment Grade status, with a Baa2/P2 rating (negative outlook) by Moody’s and a BBB-/A3 rating (stable outlook) by Standard & Poor’s.
Strong liquidity reserves:
- As of the end of 2016, the Group has € 1.1 billion in cash and equivalents (namely, other current financial instruments), as well as € 2.4 billion in liquidity reserves composed of committed credit facilities (two syndicated credit facilities of € 1.5 billion and € 550 million, respectively), and an additional € 350 million from bilateral facilities with key international banking partners.
- The Group has access to a Belgian Treasury Bill program for € 1 billion, and alternatively, to a US commercial paper program for US$500 million.
Investment grade rating:
- The Group aims at preserving its investment grade rating and in that context maintains a prudent financial profile. Moreover, the Group’s portfolio management and investment decisions, as well as cash flow generation objectives, take explicit account of their impact on the Group’s credit metrics. Solvay has also developed a comprehensive financial methodology, and is advised by independent experts, making it possible to understand and anticipate impacts on credit worthiness derived from prospective financial and business developments.
- Solvay promotes transparent and regular discussions with leading rating agencies.
Geographic diversification and foreign exchange hedging policy
Geographic diversification of the manufacturing footprint and sales naturally mitigates foreign exchange risk, as income streams are matched with expenses in the same currency.
Currency hedging policy
Solvay monitors the foreign exchange market closely and takes hedging measures, principally for terms shorter than one year and generally not exceeding 18 months, whenever deemed appropriate.
- To hedge forex exchange exposure, Solvay uses forward and option contracts designed to secure the value of future cash flows in foreign currency.
- The Group manages its foreign exchange risk for receivables, payables and borrowings centrally for all affiliates of the Group where it is possible to enter into such transactions, and through local financial affiliates for other regions.
Interest rate hedging policy
The Group locks the majority of its net indebtedness with fixed interest rates. Solvay monitors the interest rate market closely and enters into interest rate swaps whenever they are deemed appropriate.
Monitoring of Group counterparties’ ratings
For its treasury activities, Solvay works with banking institutions of the highest creditworthiness (selection based on major rating systems) and minimizes the concentration of risk by limiting its exposure to each of these banks to a certain threshold, set in relation to the institution’s credit rating. In addition, Solvay may invest money with highly-rated money market funds, as well as in short-term debt securities from highly-rated sovereign issuers when appropriate.
For its commercial activities, Solvay’s external customer risk and cash collection are monitored by a strong network of credit managers and cash collectors located in the Group’s various operating regions and countries. Their controls are supported by a set of detailed procedures and managed through Corporate and GBU Credit Committees. These loss mitigation measures have led, over the past few years, to a record low rate of customer defaults.
Pension governance and pension plan optimization
Pension governance: Solvay has set guidelines to maximize its influence over local pension fund decisions within the limits provided by domestic laws, including investment and funding, selection of advisors, appointment of employer-nominated trustees to local pension fund boards, and other cost management actions.
Pension plan optimization: This consists primarily of reducing the Group’s exposure to defined benefit plans by either converting existing plans into pension plans with a lower risk profile for future services or closing them to new entrants. Examples of such lower risk plans include hybrid plans that combine cash balance plans and defined contribution plans.
A global ALM (Asset Liability Management) analysis of the Group’s pension plans, representing about 90% of the Group’s gross or net pension obligations, is performed on a triennial basis, in order to identify and manage corresponding risks on a global basis. Solvay conducted an ALM study in 2016.
Control processes for tax regulation compliance and transfer pricing policies
Control processes for tax regulation compliance include monitoring procedures and systems, thorough internal reviews, and audits performed by reputable external consultants. Efforts to prevent tax litigation risk include thorough analyses of the internal financing of affiliates, mergers, acquisitions, and divestments, or proposed changes in the business organization and operations. The Group seeks the assistance of external experts or law firms when the amounts at stake warrant it.
Transfer pricing policies, procedures and controls are aimed at meeting the requirements of the authorities. Transfer pricing documentation is prepared annually for each relevant Group legal entity that requires such documentation, in line with local national laws and practices. This is done with the assistance of internal or external experts to demonstrate the arm’s length nature of cross-company pricing. The Internal Audit department regularly verifies the existence and timeliness of the documentation. Internal transfer pricing specialists assist the business in setting intra-Group prices that comply with the transfer pricing policy.
Moreover, Solvay’s Tax department pays close attention to the correct interpretation and application of new tax rules to avoid future litigation. In this regard, among other things it implements the G20/OECD base erosion and profit shifting (BEPS) recommendations at the country level in order to ensure that tax positions remain consistent with changing requirements.