Financial risk management – general
The types of financial risks that the Industrivärden Group encounters in its business consist primarily of equities risk and – to a limited extent – other financial risks in the form of interest rate risk and liquidity risk.
Equities risk
Equities risk pertains mainly to share price risk, which is the entirely dominant risk in Industrivärden’s business. By share price risk is meant the risk of a decline in value caused by changes in prices in the stock market. Industrivärden’s active ownership should reduce the relative equities risk in the portfolio companies and thus also in Industrivärden’s portfolio. Moreover, the active ownership role provides good insight into the portfolio companies’ operations, operating environment and continuing development.
Having a mix of varied equities in the portfolio reduces volatility and contributes to a more stable return over time. Industrivärden’s equity investments are made within the parameters of the investment rules set by the Board of Directors. New investments, sales and reallocations are decided on a regular basis by a separate investment committee made up of the members of the executive management. Decisions are based on analyses that are presented by the investment organization.
In addition to investments in listed stocks, Industrivärden also conducts transactions in equity derivatives. The subsidiary Nordinvest conducts short-term equity trading within the framework of Industrivärden’s strategy.
Share price risk can be illustrated as such that a 1% change in the price of all listed shareholdings in Industrivärden’s equities portfolio as per December 31, 2010, would have affected the market value by SEK +/– 700 M. Equities risk also includes liquidity risk, which can arise, for example, for a stock that is difficult to sell. Industrivärden’s equities portfolio consists of listed stocks with good liquidity, and thus the liquidity risk is limited.
The option portion of issued convertible loans is reported as a liability and is stated at market value during the term of the loans. If the price of Industrivärden Class C shares rises, so does the carrying amount of the liability. A share price increase of 10% would increase the liability by SEK 405 M and the value of the equities portfolio by SEK 7,000 M. Upon conversion, the liability is transferred from both the loan and option portions to shareholders’ equity. interest rate
Interest rate risk
Interest rate risk is the risk that the value of a financial instrument will vary due to changes in market interest rates. The financial instruments that are exposed to interest rate risk consist of loans with variable interest rates and swap agreements with variable rates. Swap agreements may be used to limit interest expenses and to adjust maturities.
Industrivärden’s interest rate risk and its effect on earnings are judged to be low. At year-end 2010, one interest rate swap agreement was in effect under which a variable interest rate had been swapped against a fixed interest rate. The agreement pertains to borrowings totaling SEK 2,000 M with a term of 3 years. At yearend 2010 the market value of the interest rate swap agreement was SEK –99 M, which is reported directly against shareholders’ equity in the consolidated financial statements.
Liquidity risk and refinancing risk
Liquidity risk is the risk of encountering difficulties in accessing liquid assets in order to meet obligations associated with financial instruments. In accordance with Industrivärden’s finance policy, at any given time the Group has a minimum of SEK 2 billion in committed credit facilities at its disposal. Refinancing risk is the risk of the Company being unable to obtain financing or that financing can only be obtained at a considerably higher cost. In the aim of minimizing refinancing risk, the loans’ maturities are distributed evenly over time to lower the likelihood of a large portion of loans being refinanced at the same date.
Industrivärden’s liquidity risk and refinancing risk are judged to be low. With an equity ratio of 79% (79%) and an A rating, Industrivärden has considerable financial flexibility.
Currency risk
Currency risk is the risk that the value of assets and liabilities will vary due to changes in exchange rates. Industrivärden’s currency risk is mainly coupled to the outstanding convertible loan of EUR 500 M. The loan was hedged for the most part during the year, but hedge accounting has not been applied.
Counterparty risk
Counterparty risk is the risk of a party in a transaction with a financial instrument not being able to meet its obligations and thereby causing loss to the other party. Internal rules set by Industrivärden prescribe high creditworthiness of counterparties with respect to investments, derivative transactions, etc., which is why counterparty risk is considered to be low.
Operational risks
Operational risk is the risk of incurring a loss due to defects in internal routines and systems. AB Industrivärden’s risk management rests on a foundation of internally adopted internal guidelines and rules, and of policies adopted by the Board of Directors. Important
rules include investment rules and the finance policy. To strengthen internal control, Industrivärden’s external auditors perform a review of interim reports. Matters pertaining to confidentiality and information security are of major importance for Industrivärden and are regulated by internal guidelines.
Internal control of financial reporting
In view of the share price risk described above, the most important control process in Industrivärden’s business consists of the continuous monitoring of its value exposure in the equities portfolio. Industrivärden’s internal control is therefore primarily focused on ensuring the reliability of valuations of outstanding equity and derivative positions and of the reporting of purchases and sales of stocks and other securities. According to the Swedish Companies Act, the Board is responsible for internal control.
The Board’s work plan lays out investment rules for equities and derivative instruments as well as a finance policy. Decision-making channels, authority and responsibility are defined by a set of investment rules as well as finance instructions. Industrivärden has an investment committee that has been set up specifically to make regular decisions on investment matters within the framework of the CEO’s mandate.
Other processes with a bearing on the financial reporting are regulated by Industrivärden’s insider rules, information policy, confidentiality policy and other policies. Industrivärden’s greatest risk consists of value exposure in the equities portfolio. The predominant risk in work processes pertains to potential errors in the accounting and reporting of equity transactions. Industrivärden continuously assesses the risks in the handling of equity transactions, which are discussed with the auditors and affect the structure of internal risk control. Control activities pertaining to the equities portfolio include, among other things, approval of all business transactions, registration in internal systems not later than the day after the transaction date, follow-up to ensure that equity transactions are in accordance with decisions made by the Investment Committee, and checks to make sure that the value of purchases and sales of stocks and of underlying stocks in derivative transactions is within the scope of established exposure limits. All equity positions are followed up on a continuous basis in real time.
The Investment Committee, which consists of the executive management, continuously follows up investment decisions that have been made and checks to ensure that they have been executed correctly. Minutes are recorded of Investment Committee meetings.