DLH’s activities are exposed to a number of commercial, financial and insurable risks that are given high priority in the group’s risk management.
Risks relating to the group’s operations Risks relating to markets in which the group operates Financial risksRisks relating to litigation, disputes and legal issuesThe management believes that the key risks to be considered in relation to an analysis of the group and its activities are described below. The conditions mentioned are not necessarily exhaustive and are not listed in the order of importance. Should some of the risk factors mentioned below materialise, it could have a significant impact on the group’s future development, results, cash flow and financial position.
The group’s principles for managing risks Risks relating to the group’s operations
The value of DLH’s inventories can develop negatively
As a stock-holding wholesale business, DLH maintains substantial inventory in order to meet customer orders in the shortest possible response time. If DLH does not dispose its inventory correctly or in the event of price falls or reduced demand for its warehoused products, there is a significant risk that the value of such stock will fall.
DLH is dependent on access to certified tropical hardwood DLH’s objective is to be a leader in the global trade of certified tropical hardwood. As a result, the group is dependent on access to sufficient quantities thereof. All other things being equal, the sale of DLH’s own forest and production activities in Africa will impact on DLH’s access to certified tropical wood until alternative suppliers have been identifi ed. The development of certified forest in other supply markets has also proceeded at a slow pace and in Brazil, the development of forest areas has been negative in recent years. There is a significant risk of a shortage of supplies to customers if the group cannot gain access to sufficient volumes of certified tropical hardwood.
DLH is dependent on a few major sheet material suppliers
DLH has signed agreements concerning the distribution of sheet materials with a limited number of producers. Should the partnership with one or more of these producers cease, DLH is exposed to a supply risk until such supplies have been replaced by sheet material products from other suppliers.
DLH is dependent on an efficient supply chain DLH is dependent on having an efficient supply chain all the way from purchasing and to delivery to the end customer. As a focused wholesaler in the market for trading timber, timber products and sheet materials, DLH operates in a market characterised by relatively low earnings margins. If the supply chain is inefficient, therefore, the group risks losing competitiveness and market share. The low earnings margins also mean that even minor cost increases may have a relatively significant adverse effect on the group’s earnings.
Access to freight and transport may be limited The access to freight and transport of DLH’s products from the supply countries to the group’s markets can, for several reasons, be periodically limited or subject to delays.
Access to sea freight can be limited at times of high business activity if ship owners’ tonnage availability is deployed on other freight routes. Equally, a lack of access to road transport, especially in certain African countries can delay deliveries. Moreover, climatic conditions may limit access to freight and transport of supplies from susceptible geographical areas.
Limited access to freight and transport can have a negative impact on the group’s potential for punctual deliveries to its customers.
DLH buys raw materials from countries where trade, logistics and legislative practices as well as political and economic
conditions differ from western norms
An important part of DLH’s supply areas are in countries where trading, logistics and legislative practices differ from western norms. This can result in a lack of law enforcement, corruption and other types of criminality.
Moreover, the political and economic conditions in several supply areas are unstable and the risk of political turbulence, unrest etc. exists. Changes to policies in certain countries have resulted in export bans on goods, including timber products, for shorter or longer periods.
DLH is exposed to losses on receivables or other counterparties
The group’s credit risks primarily relate to receivables, prepayments for goods and receivables from derivative financial instruments and, to a lesser extent, from bank account deposits. The economic slowdown in certain countries has increased the credit risk. The increased risk materialises when credit insurance companies reduce and, in the worst case, terminate their insurance limits for insured customers or when the group’s own risk on uninsured customers increases. In addition to the increased risk, considerable costs for credit information and debtor insurance can be expected.
To secure supplies from Africa, South America and Eastern Europe, the company uses prepayments for suppliers as a substantial parameter. This involves a risk of losses.
DLH can be made responsible for deficiencies
DLH is exposed to risk if the products that are sold are deficient. In this respect, certain products may have to be recalled which can entail considerable costs for replacement, repair or compensation. Such events may also harm the DLH brand and reputation.
DLH is dependent on certain major customers
If one or more of the group’s major customers terminate their contract with DLH or stop buying DLH products, this may have a significant negative impact on the group. The largest single customer accounted for 3 % of the group’s overall turnover for the continuing activities in 2010.
Risks relating to markets in which the group operates
The group is subject to global economic trends
DLH is exposed to considerable risks relating to developments in its sales market. The financial crisis and the subsequent negative development in global economic trends have lead to falling consumption. The construction sector, DLH’s most important market, has been among the hardest hit segments as orders for new build and renovation activities are closely linked to general economic trends.
The group sells products in several markets with political and economic risks DLH sells the majority of its products in Western Europe although a small proportion are sold in so-called emerging markets such as China, Russia, India and Vietnam. The group’s sales in some of these markets are, in general, subject to risks that normally relate to sales in new markets, including possible political and economic turbulence.
DLH is exposed to risks from global and regional disasters and other accidents The group’s activities and results can be negatively affected by disasters and other accidents. DLH may also be affected by damage to its stock as a result of, e.g., fi re or other accidents.
Damage to stock may, for instance, impede service to the group’s customers and therefore have a negative impact on the group’s turnover and reputation.
Negative publicity may harm the group’s activities
The group wishes to be a leader within global trading with certified tropical hardwood. Trading – especially in tropical wood – is of interest to the media and DLH has, in the past, experienced negative publicity.
Despite the fact that the group’s strategy is based on high profile environmental policies and that it is committed to operating as an environmentally responsible company, there is a risk that the group may again be subject to negative publicity.
The group operates in a competitive market
The market in which DLH operates, timber, timber products and sheet products, is highly competitive. Price competition has further
intensified in recent years in part because of low entry barriers, an increasing number of back-to-back customers and new wholesalers in the market. This has impacted on DLH’s market position and earnings.
Financial risks
Liquidity and financing In recent years, the group has had a considerable level of debt. Since the financial crisis in 2008, the company has recorded significant losses on continuing activities and this has lead to greater difficulties than previously in obtaining financing. This has increased the group’s risks significantly.
On 7 February, 2011 DLH announced a new bank agreement that, subject to the execution of a rights issue with proceeds of at least DKK 245 million, will run until 31 March, 2014. Without the rights issue, the agreement will run until 31 March, 2012.
The terms of the bank agreement, including a more detailed description of the conditions relating to financial performance and restrictions on the opportunities for dividend payments, are given in note 23.
DLH has risks relating to non-covered pension commitments
The parent company and the majority of the foreign companies’ pension commitments are covered by insurance. In a few of DLH’s foreign companies, however, the employees are covered by the so-called defined benefit pension schemes where the pension commitment is not covered and therefore involves a risk for DLH.
The group is exposed to changes in foreign exchange rates
Due to its international activities, DLH is exposed to foreign exchange fl uctuations. The group’s most important foreign exchange exposure relates to USD and to a lesser extent to PLN, NOK and SEK. If the fixed rate policy vis-à-vis EUR changes, DLH’s foreign exchange exposure will increase.
The group is exposed to changes in interest rates
As a consequence of its fi nancing activities, DLH is exposed to risks relating to fl uctuations in interest rate levels in both DKK and borrowing currencies. The primary interest rate exposure relates to fl uctuations in short money market rates in the group’s shadow currencies. It is DLH’s policy to hedge interest rate risks on loans when it is deemed that interest payments can be hedged at a satisfactory level. Hedging is usually done by entering interest swaps where variable rate loans are converted
to fixed interest.
Risks relating to litigation, disputes and legal issues
DLH is at a risk of being a party to litigation and other disputes DLH can become a party to litigation and arbitration cases and may incur liability if these were to have a negative outcome for the group.
Risks relating to divested companies and activities
DLH has disposed of a number of non-strategic companies and activities. Within this context, DLH has issued certain guarantees to the purchasers that may involve a risk of losses. In connection with the sale of African forests and production activities, DLH has provided guarantees for some losses to the buyer as a result of political conditions or unrest.
DLH is subject to prevailing laws in a number of special jurisdictions The group is subject to extensive national and international legislation and regulations within, for instance, employment law, the environment and competitive issues and prevailing industry standards and practices. The group is represented within a number of jurisdictions and, therefore, subject to widely different legislations and regulations. Irrespective of the fact that the group strives to comply with all relevant legislation and regulations within the respective jurisdictions, there is a risk if DLH has not complied with all legislation and regulations.
Tax regulations in some of DLH’s markets may differ substantially from European traditions
DLH’s global timber trading business involves activities in a number of continents, regions and countries where the group is exposed to changes in taxation, levies, customs and accounting regulations.
Especially the taxation regulations and the administrative traditions and interpretation hereof may deviate considerably from regulations, traditions and administrative practice in Europe. Moreover, DLH has extensive intra-group trading. This entails risks in relation to a lack of compliance with local regulations including, for instance, in relation to the registration of fixed operating premises and the risk of some countries’ lack of acceptance of the DLH group’s policy for determining intra-group settlement prices.
In Brazil, the local tax authorities have issued DLH’s local subsidiary with a demand for the payment of further corporation tax, VAT and levies. In return, DLH’s local subsidiary has lodged a counter claim. The matters are being dealt with partly through negotiation with the local tax authorities and partly within Brazil’s legal system. The management’s view is that the claims have been properly recognised in the financial statements, but there may be risks associated therewith in that the demands from the local tax authorities are substantial.
With regard to the former jointly taxed subsidiary in Brazil, there exists in Denmark a re-taxation liability which, as at 31 December, 2010 stood at DKK 89 million. The liability has not been recognised in DLH’s Annual Report because the management has taken, and will continue to take, measures to prevent the deferred tax commitment from being triggered. There can be a risk that these precautions prove insufficient.
The group’s principles for managing risks The group has established a number of systems and policies for countering the above-mentioned risks.
The most important element is the company’s management structure where, through close dialogue and rules for arrangement and procuration, a pro-active approach is ensured for all important issues that may incur a risk for the group.
The group has established a number of systems for managing quality and supplies under the frequently diffi cult conditions applying in the supply areas. The systems are supported by the group’s physical presence in the form of procurement offices in most of the supply areas. These offices inspect the quality of the purchased timber before shipment.
As regards tropical hardwood, in general DLH trades with many small suppliers, which ensures good supplier diversification. Usually it is possible to substitute a product from one supply region with products from other supply regions. It is this supply flexibility and the group’s active presence in all important supply regions that sets DLH apart from almost all its competitors.
Risk relating to selling on credit is selectively covered through an active credit policy where credit insurance is used to a significant extent. The group’s credit risks and policies for covering such risks are described in more detail in note 23.
By far the majority of DLH’s financial risk management is handled by its intra-group bank, which operates within fixed policies, which means, for instance, that the bank only takes up risk hedging positions. The group primarily uses forward exchange contracts or interest swap agreements for its financial risk management. Please refer to note 23 for a detailed description of DLH’s foreign exchange policy and financial risk.
DLH’s insurance policy determines the general framework for insuring persons, property and interests associated with the group. Insurable risks are evaluated on an ongoing basis and assets and serious fi nancial losses are insured against according to the following principles:
- Risk analysis (identification)
- Risk assessment (frequency and scope)
- Risk limitation (elimination or prevention)
- Risk financing (own risk or insurance)
In general, no insurance is taken out against losses that are insignifi cant from the group’s point of view or where the costs of insurance are deemed to exceed the risk. DLH’s insurance portfolio consists of global group schemes (extended property insurance, professional indemnity, product liability, transportation and business trips) as well as regional/local policies (vehicles, industrial accidents, accidents etc.). As regards general insurance, DLH has joined forces with the international insurance broker, Willis.