Unilever 2007 Annual Report Download - page 103

Unilever Annual Report and Accounts 2007 101
Financial statements continued
Notes to the consolidated accounts Unilever Group
17 Financial instruments and treasury risk management (continued)
The fair values and the carrying amount of listed investments included in financial assets and preference shares included in financial liabilities are
based on their market values. Cash and cash equivalents, other financial assets, bank loans and overdrafts have fair values that approximate to
their carrying amounts because of their short-term nature. The fair values of listed bonds are based on their market value; non-listed bonds and
other loans are based on the net present value of the anticipated future cash flows associated with these instruments. Fair values for finance
lease creditors have been assessed by reference to current market rates for comparable leasing arrangements.
Commodity contracts
The Group uses commodity forward contracts and futures to hedge against price risk in certain commodities. All commodity forward contracts
and futures hedge future purchases of raw material. Settlement of these contracts will be in cash or by physical delivery. Those contracts that
will be settled in cash are reported in the balance sheet at fair value and, to the extent that they are considered as an effective hedge under
IAS 39, fair value movements are recognised in the cash flow reserve.
Capital management
The Group’s financial strategy supports Unilever’s aim to be in the top third of a reference group including 20 other international consumer
goods companies for Total Shareholder Return, as explained on page 32. The key elements of the financial strategy are:
• appropriate access to equity and debt markets;
• sufficient flexibility for acquisitions that we fund out of current cash flows;
• A1/P1 short-term credit rating;
• sufficient resilience against economic turmoil; and
• optimal weighted average cost of capital, given the constraints above.
For the A1/P1 sort-term credit rating the company monitors the qualitative and quantitative factors utilised by the rating agencies. This
information is publicly available and is updated by the credit rating agencies on a regular basis.
The capital structure of the company is based on management’s judgement of the appropriate balancing of all key elements of its financial
strategy in order to meet the company’s strategic and day-to-day needs. Annually the overall funding plan is presented to the Board for
approval.
Return on Invested Capital is one of Unilever's key performance measures. Within this definition we defined the components of our Invested
Capital. See page 31 for the details of this definition and the calculation of Unilever's Return on Invested Capital.
Income statement sensitivity to changes in foreign exchange rates
The values of debt, investments and related hedging instruments, denominated in currencies other than the functional currency of the entities
holding them, are subject to exchange rate movements. The translation risk on the foreign exchange debtors and creditors is excluded from this
sensitivity analysis as the risk is considered to be immaterial because positions will remain within prescribed limits (see currency risks on page
97).
The remaining foreign exchange positions at 31 December 2007 mainly relate to unhedged US $ loans (total amount at 31 December 2007
US $37 million). A reasonably possible 10% change in rates would lead to a €7 million movement in the income statement (2006: €16 million).
Income statement sensitivity to changes in interest rate
Interest rate risks are presented by way of sensitivity analysis. As described on page 97, Unilever has an interest rate management policy aimed
at optimising net interest cost and reducing volatility in the income statement. As part of this policy, part of the funds/debt have fixed interest
rates and are no longer exposed to changes in the floating rates. The remaining floating part of our funds/debt (see interest rate profile tables
on pages 93 for the assets and 96 for the liabilities) is exposed to changes in the floating interest rates.
The analysis below shows the sensitivity of the income statement to a reasonably possible one percentage point change in floating interest rates
on a full-year basis.
Sensitivity to a reasonably possible
one percentage point change in
floating rates as at 31 December
€ million € million
2007 2006
Funds 25 24
Debt (55) (59)
Net investment hedges: sensitivity relating to changes in foreign exchange rates
To reduce the retranslation risk of Unilever's investments in foreign subsidiaries, Unilever uses net investment hedges. The fair values of these
net investment hedges are subject to exchange rate movements and changes in these fair values are recognised directly in equity and will offset
the retranslation impact of the related subsidiary.
At 31 December 2007 the nominal value of these net investment hedges amounts to €7.5 billion (2006: €7.6 billion) mainly consisting of US$/€
contracts. A reasonably possible 10% change in rates would lead to a fair value movement of €750 million (2006: €760 million). This
movement would be fully offset by an opposite movement on the retranslation of the book equity of the foreign subsidiary.
Cash flow hedges: sensitivity relating to changes in interest rates and foreign exchange rates
Unilever uses on a limited scale both interest rate and forex cash flow hedges. The fair values of these instruments are subject to changes in
interest rates and exchange rates. Because of the limited use of these instruments and the amount of Unilever's equity, possible changes in
interest rates and exchange rates will not lead to fair value movements that will have a material impact on Unilever's equity.