Tesco 2002 Annual Report Download - page 6

4TESCO PLC
FINANCIAL RISKS AND TREASURY MANAGEMENT
The treasury function is mandated by the Board to
manage the financial risks that arise in relation to
underlying business needs. The Board establishes
the function’s policies and operating parameters
and routinely reviews its activities, which are also
subject to regular audit. The function does not
operate as a profit centre and the undertaking of
speculative transactions is not permitted.
The main financial risks faced by the Group
relate to the availability of funds to meet business
needs, the risk of default by counterparties to
financial transactions (credit risk), and fluctuations
in interest and foreign exchange rates. These
risks are managed as described below. The
balance sheet positions at 23 February 2002
are representative of the positions throughout
the year.
FUNDING AND LIQUIDITY
The Group finances its operations by a
combination of retained profits, long and medium
term debt capital market issues, commercial
paper, bank borrowings and leases. The objective
is to ensure continuity of funding.The policy is to
smooth the debt maturity profile, to arrange
funding ahead of requirements and to maintain
sufficient undrawn committed bank facilities and a
strong credit rating so that maturing debt may be
refinanced as it falls due.
The Group’s long-term credit ratings from
Moody’s and Fitch are Aa3 and AA- respectively,
consistent with last year. During the year new
funding of £1,201m was arranged including net
new committed bank facilities of £156m and
medium term notes and bonds of £983m
maturing between 2004 and 2025. At the year
end net debt was £3,560m (2001 – £2,804m) and
the average debt maturity was six years (2001 –
seven years).
INTEREST RATE RISK MANAGEMENT
The objective is to limit our exposure to increases
in interest rates. Forward rate agreements,
interest rate swaps and caps are used to achieve
the desired mix of fixed and floating rate debt.
The policy is to fix or cap between 30% and 70%
of actual and projected debt interest costs,
although a higher percentage may be fixed within
a 12 month horizon. Forward start interest rate
swaps are used to manage projected debt interest
costs where appropriate.
At the year end, £1.7bn, 46%, of net debt was in
fixed rate form (2001 – £1.3bn, 47%), with a further
£100m, 3%, of net debt capped, as detailed in
note 21. Fixed rate debt includes £372m of
funding linked to the Retail Price Index (2001 –
£203m). This debt reduces interest rate risk by
diversifying our funding portfolio. The balance of
the debt is in floating rate form.
The average rate of interest paid during the
year was 6.3% (2001 – 6.6%). A 1% rise in UK
interest rates would reduce profit before tax by
less than 2%. Changes in interest rates in other
currencies would have no significant impact on
Group profit.
FOREIGN CURRENCY RISK MANAGEMENT
Our principal objective is to reduce the risk to
short-term profit of exchange rate volatility.
Currency exposures that could significantly impact
the profit and loss account are hedged, typically
using forward purchases or sales of foreign
currencies. However, we do not routinely hedge
profit translation risk (the risk of overseas profit
falling in sterling terms). We also seek to mitigate
the effect of currency movements reducing the
value of our overseas investments by arranging
borrowings (either directly or via foreign
exchange transactions), in matching currencies
where this is cost effective. Our objectives are to
maintain a low cost of borrowing while partially
hedging against currency depreciation.
During the year currency movements had
minimal impact on profit and increased net assets
overseas by £12m. At the year end forward
foreign currency purchases equivalent to £247m
were outstanding (2001 – £220m). See note 21.
CREDIT RISK
The objective is to reduce the risk of loss arising
from default by parties to financial transactions.
The risk is managed by spreading financial
transactions across an approved list of
counterparties of high credit quality. The Group’s
positions with these counterparties and their
credit ratings are routinely monitored.
operating and financial review continued