Risks associated with business
Uponor’s financial performance could be affected by a range of market, operational, financing and hazard risks.
Uponor’s principal areas of business are Europe and North America, where its exposure to political risks is generally considered to be relatively low. However, the situation changed somewhat in 2015 when Uponor opened a production facility in the St. Petersburg area in Russia, and announced a similar plan concerning the Shanghai area in China. On the other hand, Uponor Infra divested its Thailand operations in February 2015, a move that to some extent decreases the Group’s emerging market exposure.
The Ukraine crisis and its repercussions have kept the political risks associated with Russia on the agenda. Sanctions imposed by the U.S. and EU against Russia, and Russia’s counter sanctions, are still affecting business conditions in Russia and elsewhere in Europe, particularly in Finland, and no solution is in sight in the foreseeable future. These tense relations have had a negative impact on the European markets and on fragile economic growth on the continent. Russia’s share of Uponor’s net sales was around 2.0% in 2015.
The European economy and Europe’s economic climate show some signs of recovery, but the upturn is slow and fragile. The Ukrainian situation referred to above is still a negative factor. Unrest and military conflict in the Middle East are not a new phenomenon, but have recently escalated in a rapid and uncontrolled manner. The situation has led to unpredictable levels of volatility and huge challenges facing Europe in the form of terrorism and the hundreds of thousands of refugees who entered Europe in 2015, a migration that will continue in 2016. Uponor is continually monitoring the situation and performing internal assessments of the potential risks facing Europe and the euro area, and their possible repercussions for Uponor’s operations.
Since Uponor’s net sales are divided among a large number of customers, most of which are distributors (wholesalers), end-market demand for the company’s products is distributed across a wide customer base. The five largest customer groups, whose sales is distributed between over 20 countries, generate roughly one third of Uponor’s net sales.
Demand for Uponor’s products depends on business cycles in the construction sector. Uponor's main end market has traditionally comprised single-family housing. However, the company's products are increasingly being supplied for multi-family residential and non-residential building construction. Demand often fluctuates differently within each of these two sectors. To a certain degree, such fluctuations are being offset by demand for renovation projects, which is not always as discretionary as that for new housing projects.
Close to one third of Uponor's annual net sales come from the infrastructure solutions business. This entails a corresponding increase in the associated risks for the company. In addition to construction sector cycles, demand for infrastructure products depends on civil engineering and publicly funded investments in municipal development. To safeguard against risks associated with economic cycles and fluctuations in demand, the company has developed its sales forecasting processes and enhanced the flexibility of its organisation and supply chain.
In many countries, Uponor's operations are regulated by local legislation. For example, Uponor seeks national product approval for a large proportion of the products it sells. It also closely monitors any laws and regulations under preparation, in order to anticipate their impact on Uponor and its customers.
2 Operational risks
The prices of raw materials used in the manufacture of plastic pipe systems are susceptible to change, driven by several factors including petrochemical and metal product price fluctuations, supply capacity, market demand etc. In recent years, Uponor has been able to pass most of the effects of such fluctuations on to its selling prices with a reasonable delay, in such a way that this has not resulted in any material losses in income. Whenever feasible, Uponor manages the risk of fluctuations in the price of metals and plastics raw materials through supply agreements with fixed prices, and by means of financial products. Uponor continuously and systematically uses financial instruments to manage price risks associated with electricity prices at Nordic level.
With respect to component and raw material sourcing, Uponor aims to use supplies and raw materials available from several suppliers. Where only one raw material supplier is used, Uponor seeks to ensure that the supplier has at least two production plants manufacturing the goods used by Uponor. Uponor implements systems for material and raw material quality control and supplier accreditation.
Uponor manages its organisational and management risks, such as employee turnover and distortion of the age distribution, by continuously analysing its human resources and ensuring that its organisational structure supports efficient operations. Personnel development programmes focus on enhancing leadership skills in a multicultural matrix organisation. Uponor’s internal employee surveys provide important information on our employees’ engagement, by measuring various aspects of engagement, alignment, the working environment and motivation. Action plans are agreed and followed up based on the survey results, resulting in better performance and employee engagement.
Uponor’s business processes are managed using several IT applications, the most important of which are the ERP systems for the company’s European and North American operations. A system criticality review and contingency planning are included in the implementation and lifecycle management of major IT systems. Contingency plans can include activities such as failover planning, backup and restore management, and testing. Disaster recovery tests are held every two years for key systems. IT-related risks are evaluated as part of Uponor’s risk management process, with an increasing emphasis being placed on IT systems security issues. In 2015, Uponor reviewed its cyber security approach with its internal audit partner and initiated further development based on those recommendations. In addition, Uponor has been acquiring insurance coverage for this issue over a period of several years.
Uponor applies an ISO 9001 quality management system and an ISO 14001 environmental management system, which enhance production safety and productivity while reducing the environmental impact and risks of Uponor's operations. In Germany, Uponor has begun to implement an Energy Management System based on ISO 50001 in two factories, both of which have been certified.
In its Project Business operations, Uponor seeks to manage risks related to issues such as project-specific timing and costs. Such risks are covered in project and supplier agreements in so far as possible. In addition, the staff's project management skills are being actively enhanced.
3 Financing risks
Recent years have shown that major disruptions can occur in financial markets with very little warning. For this reason, although the situation now seems rather stable from Uponor's perspective, significant risks may arise in the future in relation to the availability of financing. Uponor aims to ensure the availability, flexibility and affordability of financing by maintaining sufficient credit limit reserves and a well-balanced maturity distribution of loans, as well as by using several reputable and well-rated counterparties and various forms of financing.
The Group manages its liquidity through efficient cash management solutions and by applying a risk-averse investment policy, investing solely in low-risk instruments that can be liquidated rapidly and at a clear market price.
Interest rate movements expose the Group to changes in interest expenses, as well as in the fair value of fixed-rate financial items. The interest rate risk is managed by spreading Group funding across fixed and floating rate instruments.
The international nature of its operations exposes the Group to currency risks associated with various currencies. A significant proportion of Uponor’s net sales are created in currencies other than the euro. Correspondingly, a major part of expenses associated with these net sales are also denominated in the same local currencies, markedly decreasing the associated currency risks. The Group Treasury function is responsible for managing and hedging Group-level net currency flows in external currency markets, mainly by using currency forward contracts and currency options as hedging instruments.
Uponor is also exposed to currency translation risk, which manifests itself in the translation of non-euro-area subsidiaries’ equity into euro. According to the company’s hedging policy, non-euro-area balance sheet items are not hedged, with the exception of some internal loans, which are classified as net investments and included in hedge accounting.
4 Hazard risks
Uponor operates 14 production plants in nine countries. The products manufactured in these plants generate most of the company's net sales. Uponor co-ordinates property damage and business interruption insurance at Group level on a centralised basis, in order to achieve extensive insurance cover neutralising the possible financial damage caused by risks associated with machine breakdowns, fire etc. Another major hazard risk is associated with product liability related to products manufactured and sold by Uponor. Product liability is also addressed through centralised insurance programmes at Group level.
Uponor launched a Group-wide Business Continuity Management and Business Interruption Analysis project again in 2015 and the project’s first phase should be finished during the first half of 2016. Various and numerous measures are already being taken in order to manage the risks associated with property damage and business interruption. These include safety training for personnel, adherence to maintenance schedules, and actions taken to maintain the availability of major spare parts. Audits and training conducted at Uponor’s production sites by, and in cooperation with, insurance companies also form an essential part of Group risk management. Cyber risks and threats are subject to constant monitoring by default.
5 Risk management in 2015
Because the business environment in many of Uponor’s major geographical markets remained challenging, the management and monitoring of market risks continued to play a key role in the field of risk management.
In March 2015, Uponor established a captive insurance company, Uponor Insurance Ltd, a fully-owned subsidiary of Uponor Corporation. With the new company, Uponor aims to improve its management of Uponor Group's global liability programmes.
In 2014, a public discussion arose in Finland related to taste and odour issues observed in PEX tap water pipes representing different brands. Abnormalities were found in a few production batches of Uponor products; these abnormalities were not compliant with the type approval requirements applied in Finland. As a result, Uponor implemented corrective measures in post-production processes to ensure consistent product quality. Due to promptly performed corrective measures any concerns have been alleviated and the magnitude and effects of the issue have turned out to be relatively small.
Price developments in 2015 were challenging with regard to several of Uponor’s key raw materials, and suppliers also faced capacity constraints. The volatility of both the price of plastic resin and the price of oil and oil products, and their increasingly diverging trends, posed extra challenges for the sourcing function. This had no material impact on Uponor’s business. In sum, continuous risk management is an important and clearly acknowledged component of sourcing.
Uponor conducted risk assessment exercises in the spring and autumn of 2015 in relation to the primary risks identified, and updated its risk management plans accordingly.
In 2015, in cooperation with insurance companies, Uponor assessed the functionality and preparedness of its risk management in five production units. The results showed the level of risk management to be sound in all units.
With volatility still dominating the global economic arena, concern about the availability of bank and market-based funding on favourable terms remained on the agenda. To secure longer-term funding, Uponor has diversified its financing risks through various funding instruments, maturities, multiple counterparties and markets. When funding is not raised from money or capital markets, special attention is paid to the quality of the counterparties. Only solid, well-rated banks or financial institutions are used. In the summer of 2015, Uponor renewed the remaining part of its committed bilateral credit limits, representing a value of €50 million, for a five-year period. The size of Uponor’s total committed revolving credit facility programmes is €200 million, with maturities ranging between 2019 and 2020.
As in previous years, special attention was paid to the monitoring of account receivables and the handling of credit risk.
Together with changing tax policies, global economic volatility has increased companies’ tax risk exposure, giving tax risk management continued prominence within Uponor. The company has proactively endeavoured to focus on good tax governance and has assigned a more explicit role to tax risk assessment within its risk assessment process.
Uponor is involved in several judicial proceedings in various countries. The year 2015 saw no materialisation of risks, pending litigation or other legal proceedings, or measures taken by the authorities that, based on current information, might have been of material significance to the Group. Uponor Corporation's U.S. operative subsidiary company, Uponor, Inc., its insurers and some of its key trade partners (home builders, plumbers and distributors) came together to resolve the alleged failure risks of Uponor yellow brass fittings sold in the U.S., in connection with two proposed class action settlements. Court approvals of the final settlement terms were granted in December 2015. To all intents and purposes, the settlements were approved by the court in the form originally proposed by the parties, making them final and binding on all parties.