Chapters
Annual Report 2019

3. Financial Risk Management

3.1 Financial Risk Factors

The Group’s activities expose it to a variety of financial risks: market risks (currency risk, interest rate risk, price risk), credit risk and liquidity risk. The Group’s overall risk management program focuses on the unpredictability of financial markets and seeks to minimize potential adverse effects on the financial performance of the Group. The Group uses derivative financial instruments to hedge certain risk exposures.

The Group’s management provides principles for overall risk management, as well as policies covering specific areas, such as foreign exchange risk, interest rate risk, credit risk and the use of derivative and non-derivative financial instruments.

3.1.1 Market Risk


(i) Foreign exchange risk

Foreign exchange risk arises when future commercial transactions or recognized assets or liabilities are denominated in a currency that is not the entity’s functional currency. The Group treasury’s risk management policy is to hedge the expected cash flows in most currencies, mainly by making use of derivatives as described in note 24.

The majority of the Group operations takes place in the ‘eurozone’, which comprises 58% (2018: 57%) of total revenue. Translation exposure to foreign exchange risk relates to those activities outside the eurozone, whose net assets are exposed to foreign currency translation risk. The currency translation risk is not hedged.

If the currencies had been 5% weaker against the euro with all other variables held constant, the Group’s result for the year would have been 0.8% higher (2018: 0.8% lower) of which 2.2% higher impact of mainly USD offset by 1.4% lower impact of mainly currencies in Europe (HUF, SEK, PLN) (2018: 1.8% lower impact of mainly currencies in Europe (HUF, SEK, PLN) offset by 1% higher impact of mainly USD) and equity would have been 3.0% lower (2018: 3.3% lower), of which 0.8% lower impact of GBP (2018: 0.9% lower impact of GBP and 0.4% lower impact of USD ).

Foreign exchange risks with respect to commercial transactions other than in the functional currency are mainly related to US dollar denominated purchases of goods in Asia, indirect exposure on goods and services invoiced in the functional currency but of which the underlying exposure is in a non-functional currency.

The Group designates the spot component of foreign forward exchange contracts to hedge its currency risk and applies a hedge ratio of 1:1. The Group’s policy is for the critical terms of the forward exchange contracts to align with the hedged item. Based on the Group's policy, the foreign currency risk relating to commercial transactions denominated in a currency other than the functional currency of companies within the Group, is hedged between 25% and 80% of the transactional cash flows based on a rolling 12-month forecast, resulting in a relatively limited foreign exchange risk for non-hedged commercial transactions. Due to the volatility of the British Pound in relation to the Brexit event, in 2019 GrandVision has adapted its policy towards hedging the GBP and hedged its British Pound Sterling transactional exposures to the higher end of this range or slightly above, to appropriately take into account the changed circumstances and currency risks that resulted from the Brexit developments.

Cash flow hedge accounting is applied when the forecasted transaction is highly probable.

GrandVision is exposed to the risk that the exchange rate related to its Argentinean operations will further devalue. Because the Argentinean peso-denominated assets, liabilities, income and expenses of the Argentinean operations are translated into euros for consolidation purposes, a further devaluation of the Argentinean peso going forward could result in lower translated results, assets and liabilities in GrandVision’s consolidated figures, which are presented in euros. As the Argentinean operations represent a limited part of the Group, the effects of a devaluation would be limited.

(ii) Interest rate risk

The Group’s income and operating cash flows are substantially independent of changes in market interest rates. The Group generally borrows at variable rates and uses interest rate swaps as cash flow hedges of future interest payments based on a rolling 12-month forecast, which have the economic effect of converting interest rates from floating rates to fixed rates. The Group's policy is to maintain a minimum of 60% of its net debt on a forward-looking 12-months basis, related to interest rate risk at fixed rate. Under the interest rate swaps, the Group agrees with other parties to exchange, at specified intervals, the difference between fixed contract rates and floating interest rate amounts calculated by reference to the agreed notional principal amounts and benchmarks. The Group also uses 0% floors to hedge its exposure to negative interest rate risk. The Group applies a hedge ratio of 1:1.

The table below shows sensitivity analysis considering changes in the EURIBOR:

2019

2018

Impact on result before tax

Impact on Other Comprehensive Income

Impact on result before tax

Impact on Other Comprehensive Income

EURIBOR rate - increase 50 basis points

-2,281

5,979

- 2,323

6,367

EURIBOR rate - decrease 50 basis points

2,278

-4,188

2,279

- 4,236

Note 24 provides more detail on the derivatives the Group uses to hedge the cash flow interest rate risk.

(iii) Price risk

Management believes that the price risk is limited, because there are no listed securities held by the Group and the Group is not directly exposed to commodity price risk.

3.1.2 Credit Risk

Credit risk is managed both locally and on a Group level, where applicable. Credit risk arises from cash and cash equivalents, derivatives and deposits with banks and financial institutions, as well as credit exposures to wholesale customers, retail customers, health insurance institutions and credit card companies, including outstanding receivables and committed transactions. Refer to note 16 for details of expected credit losses for financial assets measured at amortized cost.

Derivative transactions are concluded, and cash and bank deposits are held only with financial institutions with strong credit ratings. The Group also diversifies its bank deposits and applies credit limits to each approved counterparty for its derivatives. The Group has no significant concentrations of consumer credit risk as a result of the nature of its retail operations. In addition, in some countries all or part of the consumer credit risk is transferred to credit card companies. The Group has receivables from its franchisees. Management believes that the credit risk in this respect is limited, because the franchisee receivables are often secured by pledges on the inventories of the franchisees. The utilization of credit limits is regularly monitored. Sales to retail customers are settled in cash or using major debit and credit cards.

In view of the Brexit event and to mitigate the risk of the United Kingdom financial institutions (domiciled in the United Kingdom) not being able to provide services to European Economic Area (EEA) counterparties, a number of agreements in place between the Group and the banks in the United Kingdom has been transferred to the corresponding financial institutions in EEA subsidiaries. In addition, the Group adheres to a strict counterparty risk policy with defined limits per counterparty based on size and external ratings, thereby effectively spreading the embedded counterparty risk in financial transactions over a number of financial institutions.

3.1.3 Liquidity Risk

Prudent liquidity risk management implies maintaining sufficient cash, the availability of funding through an adequate amount of bilateral credit facilities (immediately available funds), a commercial paper program and committed medium-term facilities (available at 4 days' notice). Due to the dynamic nature of the underlying business, the Group aims to have flexibility in funding by maintaining headroom of at least €200 million as a combination of cash at hand plus available committed credit facilities minus any overdraft balances and/ or debt maturities with a term of less than one year. The Group and the local management monitors its liquidity periodically based on expected cash flows.

The Group has a revolving credit facility of €1,200 million, which was refinanced in July 2019 and has a new maturity date of 23 July 2024 (see note 23). The interest rate on the drawings consists of the margin and the applicable rate (i.e. for a loan in euros, the EURIBOR), however the applicable rate can never be below zero percent.

The facility requires the Group to comply with the following financial covenant: maintenance of a maximum total leverage ratio (net debt/EBITDA-covenants) of less than or equal to 3.25. Compliance with the bank covenant is tested and reported on twice a year. As at 31 December 2019, the Group is compliant with the bank covenant and has been so for the duration of the facility.

The Group has a commercial paper program under which it can issue commercial paper up to the value of €500 million. As at 31 December 2019, the amount outstanding under the commercial paper program was €453 million (2018: €418 million).

The table below analyses the maturity of Group’s financial liabilities and derivative financial liabilities. The amounts disclosed are the contractual undiscounted cash flows.

in thousands of EUR

Within 1 year

1-2 years

2-5 years

After 5 years

Total

31 December 2019

Lease liabilities

380,210

322,087

575,873

224,672

1,502,842

Borrowings

67,266

2,883

392,814

-

462,963

Commercial paper

452,053

-

-

-

452,053

Derivatives

2,441

2,881

6,897

1,355

13,574

Contingent consideration

2,000

2,789

11,190

-

15,979

Trade and other payables (excluding other taxes and social security)

492,920

-

-

-

492,920

31 December 2018

Lease liabilities

448

257

255

-

960

Borrowings

100,803

1,876

364,396

-

467,075

Commercial paper

417,122

-

-

-

417,122

Derivatives

2,644

2,581

5,694

2,629

13,548

Contingent consideration

20,599

-

-

-

20,599

Trade and other payables (excluding other taxes and social security)

457,615

-

-

-

457,615

In 2019, the Group launched its Supply Chain Financing program. This program allows suppliers to receive payments early from the bank, at their full discretion. Since the Group doesn’t have a direct benefit, the payment terms of the Group are not impacted by this scheme and there is no change to contractual relationship between the Group and the bank, the trade and other payable balances with suppliers participating in this program continue to be classified as trade and other payable.

3.2 Capital Risk Management

The Group’s objectives when managing capital are to safeguard the Group’s ability to continue as a going concern in order to provide returns to shareholders and benefits to other stakeholders and to maintain an optimal capital structure to reduce the cost of capital. There are no externally imposed capital requirements, except for certain limitations following the announced acquisition of GrandVision shares by EssilorLuxottica, which is conditional on net debt cap of €993 million.

The Group monitors capital based on leverage ratio (defined as net debt/EBITDA - covenants). Management believes the current capital structure, operational cash flows and profitability of the Group will safeguard the Group’s ability to continue as a going concern. GrandVision aims to maintain a maximum leverage ratio of 2.0 (net debt/EBITDA - covenants) excluding the impact of any borrowings associated with, and any EBITDA amounts attributable to major acquisitions. Net debt consists of the Group's borrowings, derivatives and cash and cash equivalents, excluding lease liabilities. In 2019, EBITDA used for monitoring financial covenants is calculated as adjusted EBITDA less depreciation of right-of-use assets and net financial result on lease liabilities and receivables (''EBITDA - covenants'').

in thousands of EUR

31 December 2019

31 December 2018

Equity attributable to equity holders

1,177,152

1,162,454

Net debt

752,708

743,248

EBITDA - covenants

605,669

576,423

Leverage ratio

1.2

1.3

3.3 Fair Value Estimation

The financial instruments carried at fair value can be valued using different levels of valuation methods. The different levels have been defined as follows:

  • Quoted prices (unadjusted) in active markets for identical assets or liabilities (level 1). A market is regarded as active if quoted prices are readily and regularly available from an exchange, dealer, broker, industry group, pricing service, or regulatory agency, and those prices represent actual and regularly occurring market transactions on an arm’s length basis.
  • Inputs other than quoted prices included in level 1 that are observable for the asset or liability, either directly (prices) or indirectly (derived from prices) (level 2). Valuation techniques are used to determine the value. These valuation techniques maximize the use of observable market data where it is available and rely as little as possible on entity-specific estimates. All significant inputs required to fair value an instrument have to be observable.
  • Inputs for asset or liability that are not based on observable market data (unobservable inputs) (level 3).

The assets and liabilities for the Group measured at fair value qualify for the level 3 category except for the derivative financial instruments (note 24) which qualify for the level 2 category. The Group does not have any assets and liabilities that qualify for the level 1 category. If multiple levels of valuation methods are available for an asset or liability, the Group will use a method that maximizes the use of observable inputs and minimizes the use of unobservable inputs.

The table below shows the level 2 and level 3 categories:

in thousands of EUR

Level 2

Level 3

At 31 December 2019

Assets

Derivatives used for hedging

1,581

-

Non-current assets

-

1,410

Total

1,581

1,410

Liabilities

Contingent consideration - Other current and non-current liabilities

-

7,688

Derivatives used for hedging

14,041

-

Total

14,041

7,688

At 31 December 2018

Assets

Derivatives used for hedging

3,459

-

Non-current assets

-

1,406

Total

3,459

1,406

Liabilities

Contingent consideration - Other current and non-current liabilities

-

19,676

Derivatives used for hedging

6,749

-

Total

6,749

19,676

There were no transfers between levels 1, 2 and 3 during the periods.

Level 2 category

An instrument is included in level 2 if the financial instrument is not traded in an active market and if the fair value is determined by using valuation techniques based on the maximum use of observable market data for all significant inputs. For the derivatives, the Group uses the estimated fair value of financial instruments determined by using available market information and appropriate valuation methods, including relevant credit risks. The estimated fair value approximates to the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Specific valuation techniques used to value financial instruments include:

  • quoted market prices or dealer quotes for similar instruments;
  • the fair value of interest rate swaps is calculated as the present value of the estimated future cash flows based on observable yield curves;
  • the fair value of forward foreign exchange contracts is determined using forward exchange rates at the balance sheet date discounted back to present value
Level 3 category

The level 3 category mainly refers to contingent considerations. The contingent considerations are remeasured based on the agreed business targets. Refer to note 4 for more details on the valuation methodologies and key inputs in the determination of fair value of the contingent considerations related to Charlie Temple.