Credit risk is the risk of a loss if a counterparty or its guarantor cannot or will not meet its obligations. For the purposes of managing this risk, a distinction is drawn between debtor risk and counterparty risk, including the risk Eneco runs on cross-border lease transactions.
Debtor risk is the risk that a debtor fails to pay a receivable. Most receivables are of limited size and there are a great number of debtors. The Board of Management does not consider this to be a concentration of risk.
Policy is designed not to provide customers with any credit going beyond normal supplier credit as set out in the applicable conditions of supply. Policy is also formulated at a decentralised level within the organisation. The effectiveness of that policy is monitored at the corporate level and adjustments are made as required.
Measures in place to limit debtor risk are:
- an active debt collection policy;
- credit limits, bank guarantees and/or margining (cash collateral) for business customers;
- recourse to debt collection agencies and different collection methods for current and former customers.
The amount of a receivable is adjusted pursuant to a set procedure. The adjustment depends on the time that the receivable has remained outstanding and the probability that it will not be paid in full. There are also individual reviews for business customers.
Counterparty risk is the risk that a trading partner cannot or will not meet its delivery or payment obligations. This risk is primarily encountered in trading in energy commodities, emission rights and interest rate and foreign currency hedge transactions. The basis for the management of this risk is set out in the Counterparty Mandate (part of the Eneco Energy Trade commodity mandate) and the Treasury Charter drawn up by the Board of Management.
The counterparty risk management methods are set out in the Counterparty Mandate drawn up by the Board of Management. The size of the counterparty risk is primarily determined by the replacement value of the future deliveries and the commodity delivered which has not yet been paid for. The replacement value is calculated each day for each counterparty based on current market prices for future deliveries. The risk position is measured against the risk tolerance. That tolerance is drawn up for each contract party on the basis of an assessment of the creditworthiness of that counterparty derived from a public or internal rating and/or alternative assessment methods.
Counterparty risk is limited by:
- setting financial limits based on the financial strength of the counterparty;
- setting trading volume restrictions for each counterparty (position management),
- the use of standard agreements, in particular based on EFET and ISDA terms;
- use of third-party margining and clearing;
- use of bilateral margining agreements with counterparties;
- executing risk-reducing transactions with counterparties leading to partly-offsetting positions;
- requiring additional guarantees from counterparties, e.g. bank guarantees;
- credit insurance taken if necessary to cover exposures exceeding the limits.
Third-party margining and clearing is in place for futures. This transfers the counterparty risk of a futures contract to a clearing bank. This bank is linked to a clearing house that facilitates settlement of futures transactions through exchanges such as ENDEX (European Energy Derivatives Exchange N.V.), EEX (European Energy Exchange A.G.) and the ECX (European Climate Exchange). Every day, the clearing house settles interim changes in market value with its clearing banks which in turn settle with the market parties concerned (margin calls). This neutralises counterparty risk for each party to the contract.
Bilateral margining implies similar daily settlement directly with the counterparty to the transaction. The contract with the counterparty sets an initial minimum value (threshold). Bilateral margining is only applied if the threshold is exceeded.
The margining system creates liquidity risk and so risk policy is designed to monitor and match counterparty risk by forward trading and liquidity risk by margining. There is a system for monitoring internal limits using regular (often daily) reports, to manage both risks.
Eneco holds positions in the form of deposits at five European banks in connection with the lease-and-leaseback transactions (see Note 30). On the reporting date, these were USD 1.8 billion (2011: USD 2 billion). All the banks have investment grade ratings from Standard & Poor’s and/or Moody’s. The counterparty risk is reviewed frequently and this may result in positions being moved where possible to a different party.
The maximum credit risk is equal to the carrying amount of the financial assets, including derivative financial instruments and receivables under cross-border leases as disclosed in the note on Contingent assets and liabilities.
Management of financing instruments is set out the Treasury Charter drawn up by the Board of Management and Supervisory Board. Counterparty risk on borrowing money is very limited. The assessment criteria formulated in the Treasury Charter are taken into account when lending money. They call for a counterparty to have a credit rating of at least A+ (Standard & Poor's) or Aa (Moody's). Counterparty risk is further reduced by dispersion across a number of parties, predetermined limits for each counterparty and maximum lending terms.
The counterparty risk for financial instruments (swap contracts) is limited by:
- the use of framework agreements on ISDA terms;
- margining as a result of the agreed credit support agreements;
- procedures for regular assessment of counterparty risk.