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Note 40: Financial Risk Management

Financial Risk Management Objectives
Trustpower’s activities expose it to a variety of financial risks: electricity price risk, interest rate risk, exchange rate risk, liquidity risk and credit risk. The Group’s overall risk management programme focuses on the unpredictability of financial markets and seeks to minimise potential adverse effects on the Group’s financial performance. The Group uses derivative financial instruments to hedge certain risk exposures. Risk management is carried out under policies approved by the Board.

(a) Electricity Price Risk
The Group typically sells more electricity at fixed prices than it generates. As a result the Group is required to purchase a percentage of its electricity sold off the electricity spot market. This leaves the Group exposed to fluctuations in the spot price of electricity where it sells electricity at a fixed price. The Group operates under an energy trading policy which limits the exposure the Group may have in any future period.
Future exposure is estimated based on expected fixed price sales and generation output. The Group has entered into a number of electricity hedge contracts to reduce the commodity price risk from price fluctuations on the electricity spot market. These hedge contracts establish the price at which future specified quantities of electricity are purchased. Any resulting differential to be paid or received is recognised as a component of energy costs through the term of the contract. The Group has elected to apply cash flow hedge accounting to those instruments it deems material and which qualify as cash flow hedges while immaterial contracts are not hedge accounted. This risk management strategy assumes that the electricity wholesale markets in New Zealand and Australia, including the renewable energy credit market, that currently operate will continue to do so in the future. There is a possibility that future regulatory intervention may fundamentally alter the structure of these markets. The likelihood and potential impact of such a change is unquantifiable. However, such an occurrence would likely necessitate a change to the Group’s electricity price risk management policies and require a review of assets and liabilities held at fair value where electricity price is a key assumption in their value.

The aggregate notional volume of the outstanding electricity derivatives at 31 March 2014 was 836GWh (31 March 2013: 1,275GWh).

The hedged anticipated electricity purchase transactions are expected to occur continuously throughout the next three years from the end of the reporting period consistent with the Group’s forecast electricity generation and retail electricity sales. Gains and losses recognised in the cash flow hedge reserve on electricity derivatives as of 31 March 2014 will be continuously released to the income statement in each period in which the underlying purchase transactions are recognised in the income statement.

Sensitivity analysis
The tables on the following page summarise the impact of increases/decreases of the relevant forward electricity prices on the Group’s post-tax profit for the year and on other components of equity. The sensitivity analysis is based on the assumption that the relevant forward electricity prices had increased/decreased with all other variables held constant as a result of the fair value change in electricity price derivatives.

GROUP

PARENT

2014

$000

2013

$000

2014

$000

2013

$000

 

 

 

 

 

 

Increase/(decrease) to profit of a 10% increase in electricity forward price

 

1,499

447

1,499

447

Increase/(decrease) to profit of a 10% decrease in electricity forward price

 

(1,499)

(447)

(1,499)

(447)

Increase/(decrease) to equity of a 10% increase in electricity forward price

 

6,998

9,011

6,998

9,011

Increase/(decrease) to equity of a 10% decrease in electricity forward price

 

(6,998)

(9,011)

(6,998)

(9,011)

(b) Interest Rate Risk
The Group’s bank borrowings are all on floating interest rates exposing it to the risk that rising interest rates will increase the Group’s interest expense and, hence, reduce its profitability. The Group operates under a treasury policy which prescribes the proportion of fixed interest rate cover the Group must hold in relation to its future borrowings. This proportion is calculated based on the actual fixed rate cover held and the forecast debt levels of the Group. The Group has various interest rate financial instruments to manage exposure to fluctuations in interest rates. Any resulting differential to be paid or received on the instruments is recognised as a component of interest paid. The Group has elected to hedge account only a limited number of these instruments.

The aggregate notional principal amounts of the outstanding interest rate derivative instruments at 31 March 2014 was $745,062,000 (31 March 2013: $877,803,000).

Interest payment transactions are expected to occur at various dates between one month and eight years from the end of the reporting period consistent with the Group’s forecast total borrowings.

Weighted average interest rates for the Parent and the Group are disclosed in note 27.

Sensitivity analysis
At 31 March 2014, if interest rates at that date had been 100 basis points higher/lower with all other variables held constant, post-tax profit for the year and other components of equity would have been adjusted by the amounts in the table below, as a result of the fair value change in interest rate derivative instruments.

GROUP

PARENT

2014

$000

2013

$000

2014

$000

2013

$000

 

 

 

 

 

 

Increase/(decrease) to profit of a 100 basis point decrease in interest rates

 

(15,055)

(19,873)

(4,761)

(5,790)

Increase to profit of a 100 basis point increase in interest rates

 

15,151

19,058

4,615

5,484

Increase/(decrease) to equity of a 100 basis point decrease in interest rates

 

(15,151)

(20,168)

(4,856)

(6,085)

Increase/ to equity of a 100 basis point increase in interest rates

 

15,244

19,344

4,708

5,770

(c) Exchange Rate Risk
During the course of business the Group may enter into contracts for the construction of generation assets and the sale of carbon credits to be settled in a foreign currency in the future. This exposes the Group to movements in foreign exchange rates. The Group operates under a treasury policy which requires all foreign currency transactions over certain limits to be 100% hedged. Compliance with this policy is measured by forecasting future foreign currency transactions and ensuring that the exchange rate has been fixed. The Group enters into forward exchange contracts to reduce the risk from price fluctuations of foreign currency costs associated with the construction of property, plant and equipment or income associated with the sale of carbon credits. Any resulting differential to be paid or received is recognised as a component of the cost of the project for the construction of generation assets and as a part of revenue for the sale of carbon credits. The Group has elected to apply cash flow hedge accounting to these instruments.

The aggregate notional principal amounts of the outstanding forward foreign exchange contracts at 31 March 2014 was $17,245,000 (31 March 2013: $247,476,000).

The hedged anticipated transactions denominated in foreign currency are expected to occur at various dates between one month and one year from the end of the reporting period. Gains and losses recognised in the cash flow hedge reserve in equity on forward foreign exchange contracts as at 31 March 2014 will be recycled to revenue from the sale of carbon credits when the credits are sold or to cost of property, plant and equipment when the assets are purchased.

Sensitivity analysis
At 31 March 2014, if the functional currency of the entities holding the forward foreign exchange contracts had weakened/strengthened by 10 per cent against the currencies with which the Group has foreign currency risk with all other variables held constant, post-tax profit for the year would not have been different.

Other components of equity would have been $1,872,000/$(1,872,000) higher/(lower) (31 March 2013: $24,145,000/$(24,145,000) (lower)/higher), arising from foreign exchange gains/losses on revaluation of foreign exchange contracts in a cash flow hedge relationship.

(d) Credit Risk 
The Group has no significant concentrations of credit risk (2013: none). It has policies in place to ensure that sales are made to customers with an appropriate credit history. Where a potential customer does not have a suitable credit history a bond is required before the customer is accepted. Derivative counterparties and cash transactions are limited to high credit quality financial institutions with a minimum Standard & Poor’s long-term credit rating of A+ and other large electricity market participants (all have a Standard & Poor’s long-term credit rating of at least BBB). Where a potential counterparty does not meet these credit criteria the maximum level of credit exposure is set individually by the Board. The Group has policies that limit the amount of credit exposure to any counterparty.

The carrying amounts of financial assets recognised in the statement of financial position best represents the Group’s maximum exposure to credit risk at the reporting date without taking account of the value of any collateral obtained. Collateral is customer bond deposits held as cash - refer to note 26. This collateral reduces the exposure to credit risk by its nominal amount. As shown in note 20, the reported accounts receivable balance includes a provision for doubtful debts of $1,600,000 (2013: $1,700,000).

The Group has around 227,000 customers (2013: 206,000), only four (2013: four) of which make up more than one per cent of the Group’s total accounts receivable balance. The largest of these customers accounts for three per cent (2013: four per cent) of the Group’s total accounts receivable.

Included in other accounts payable and accruals is $826,000 (2013: $861,000) of bonds collected from customers who do not meet certain credit criteria.

As of 31 March 2014, trade receivables relating to the Group and the Parent of $4,156,000 (2013: $3,955,000) were past due but not impaired. The ageing analysis of these trade receivables is as follows

GROUP

PARENT

2014

$000

2013

$000

2014

$000

2013

$000

 

 

 

 

 

 

Up to 3 months

 

4,156

3,955

4,156

3,955

 

 

4,156

3,955

4,156

3,955

As of 31 March 2014, trade receivables relating to the Group and the Parent of $1,600,000 (2013: $1,700,000) were past due and impaired. The ageing analysis of these trade receivables is as follows:

GROUP

PARENT

2014

$000

2013

$000

2014

$000

2013

$000

 

 

 

 

 

 

Up to 3 months

 

279

11

279

11

Over 3 months

 

1,321

1,689

1,321

1,689

 

 

1,600

1,700

1,600

1,700

For details of the receivables considered impaired refer to note 2.4.

Movements on the provision for impairment of trade receivables are as follows:

GROUP

PARENT

Note

2014

$000

2013

$000

2014

$000

2013

$000

Opening balance

1,700

1,800

1,700

1,800

Provision for receivables impairment

7

1,432

1,492

1,432

1,492

Bad debts written off

(1,532)

(1,592)

(1,532)

(1,592)

Closing balance

20

1,600

1,700

1,600

1,700

(e) Liquidity Risk
The Group’s ability to readily attract cost effective funding is largely driven by its credit standing.
Prudent liquidity risk management implies maintaining sufficient cash and marketable securities, the availability of funding through an adequate amount of committed credit facilities and the spreading of debt maturities. The Group operates under a treasury policy which dictates the level of available committed facility to be maintained to provide cover for reasonably conceivable adverse conditions. This is measured by forecasting debt levels under various adverse scenarios and comparing this to committed facility levels. The treasury policy also requires a spread of debt maturities which is measured by the proportion of debt maturing in various time bands.

The tables below analyse the Group’s and the Parent’s financial liabilities excluding gross settled derivative financial liabilities into relevant maturity groupings based on the remaining period to the earliest possible contractual maturity date at the period end date. The amounts in the tables are contractual undiscounted cash flows.

GROUP

Less than
1 month

1-6
months

6-12 months

Over
1 year

At 31 March 2014

$000

$000

$000

$000

Net settled electricity price derivatives

247

1,353

7,712

5,992

Net settled interest rate derivatives

 

470

846

1,315

7,407

Accounts payable and accruals

 

118,486

87

104

3,856

Unsecured subordinated bonds

 

-

8,998

8,852

288,918

Unsecured senior bonds

 

-

8,170

80,320

162,895

Unsecured bank loans

 

-

13,542

5,628

714,044

Total

 

119,203

32,996

103,931

1,183,112

 

Less than
1 month

1-6
months

6-12 months

Over
1 year

At 31 March 2013

 

$000

$000

$000

$000

 

 

 

 

 

 

Net settled electricity price derivatives

 

71

1,019

6,073

10,950

Net settled interest rate derivatives

 

491

3,579

3,267

19,426

Accounts payable and accruals

 

116,009

87

104

4,064

Unsecured subordinated bonds

 

-

11,343

65,871

306,768

Unsecured senior bonds

 

-

8,170

8,170

254,235

Unsecured bank loans

 

-

11,042

5,628

452,291

Total

 

116,571

35,240

89,113

1,047,734

 

 

 

 

 

 

PARENT

 

Less than
1 month

1-6
months

6-12 months

Over
1 year

At 31 March 2014

 

$000

$000

$000

$000

 

 

 

 

 

 

Net settled electricity price derivatives

 

247

1,353

7,712

5,992

Net settled interest rate derivatives

 

82

398

480

3,680

Accounts payable and accruals

 

115,030

87

104

3,856

Unsecured subordinated bonds

 

-

8,998

8,852

288,918

Unsecured senior bonds

 

-

8,170

5,320

237,895

Unsecured bank loans

 

-

7,677

5,628

133,626

Total

 

115,359

26,683

28,096

673,967

 

 

 

 

 

 

 

 

Less than
1 month

1-6
months

6-12 months

Over
1 year

At 31 March 2013

 

$000

$000

$000

$000

 

 

 

 

 

 

Net settled electricity price derivatives

 

71

1,019

6,073

10,950

Net settled interest rate derivatives

 

298

1,391

1,689

13,046

Accounts payable and accruals

 

112,609

87

104

4,064

Unsecured subordinated bonds

 

-

11,343

65,871

306,768

Unsecured senior bonds

 

-

8,170

8,170

254,235

Unsecured bank loans

 

-

7,562

5,628

101,082

Total

 

112,978

29,572

87,535

690,145

 

The tables below analyse the Group’s and the Parent’s derivative financial instruments that will be settled on a gross basis into relevant maturity groupings based on the remaining period to the contractual maturity date at the period end date. The amounts disclosed in the tables are the contractual undiscounted cash flows.

GROUP

 

Less than
1 month

1-6
months

6-12 months

Over
1 year

At 31 March 2014

 

$000

$000

$000

$000

 

 

 

 

 

 

Foreign currency forward contracts

 

 

 

 

 

Inflows

 

-

18,762

-

-

(Outflows)

 

-

(16,130)

-

-

           

 

 

Less than
1 month

1-6
months

6-12 months

Over
1 year

At 31 March 2013

 

$000

$000

$000

$000

 

 

 

 

 

 

Foreign currency forward contracts

 

 

 

 

 

Inflows

 

3,882

139,269

77,844

21,923

(Outflows)

 

(2,529)

(141,057)

(79,793)

(22,743)

 

 

 

 

 

 

 

 

 

 

 

 

PARENT

 

Less than
1 month

1-6
months

6-12 months

Over
1 year

At 31 March 2014

 

$000

$000

$000

$000

 

 

 

 

 

 

Foreign currency forward contracts

 

 

 

 

 

Inflows

 

-

-

-

-

(Outflows)

 

-

-

-

-

 

 

 

 

 

 

 

 

Less than
1 month

1-6
months

6-12 months

Over
1 year

At 31 March 2013

 

$000

$000

$000

$000

 

 

 

 

 

 

Foreign currency forward contracts

 

 

 

 

 

Inflows

 

3,882

-

-

-

(Outflows)

 

(2,529)

-

-

-

Fair Values
Except for subordinated bonds and senior bonds (see notes 28 and 29), the carrying amount of financial assets and financial liabilities recorded in the financial statements approximates their fair values.

Estimation of Fair Values
The fair values of financial assets and financial liabilities are determined as follows:

  • The fair value of financial assets and liabilities with standard terms and conditions and traded on active liquid markets are determined with reference to quoted market prices.
  • The fair value of other financial assets and liabilities are calculated using discounted cash flow analysis based on market-quoted rates.
  • The fair value of derivative financial instruments are calculated using quoted prices. Where such prices are not available, use is made of discounted cash flow analysis using the applicable yield curve or available forward price data for the duration of the instruments.

Where the fair value of a derivative is calculated as the present value of the estimated future cash flows of the instrument, the two key types of variables used by the valuation techniques are:

  • forward price curve (as described on the following page); and
  • discount rates.

Valuation Input

Source

Interest rate forward price curve

Published market swap rates.

Foreign exchange forward prices

Published spot foreign exchange rates and interest rate differentials.

Electricity forward price curve

Market quoted prices where available and management’s best estimate based on its view of the long run marginal cost of new generation where no market quoted prices are available.

Discount rate for valuing interest rate derivatives

Published market interest rates as applicable to the remaining life of the instrument adjusted by the cost of credit of the counterparty for assets and the cost of credit of the Group for liabilities.

Discount rate for valuing forward foreign exchange contracts

Published market interest rates as applicable to the remaining life of the instrument adjusted by the cost of credit of the counterparty for assets and the cost of credit of the Group for liabilities.

Discount rate for valuing electricity price derivatives

Assumed counterparty cost of funds ranging from 4.1% to 5.2%

The selection of variables requires significant judgement and therefore there is a range of reasonably possible assumptions in respect of these variables that could be used in estimating the fair value of these derivatives. Maximum use is made of observable market data when selecting variables and developing assumptions for the valuation techniques. See earlier in this note for sensitivity analysis.

NZ IFRS 13 requires disclosure of fair value measurements by level of the following fair value measurement hierarchy:

  • Quoted prices (unadjusted) in active markets for identical assets or liabilities (level 1)
  • Inputs other than quoted prices included within level 1 that are observable for the asset or liability, either directly (that is, as prices) or indirectly (that is, derived from prices) (level 2)
  • Inputs for the asset or liability that are not based on observable market data (that is, unobservable inputs) (level 3).

There were no transfers between level 1, 2 and 3 assets or liabilities within the fair value hierarchy (2013: none).

The following tables present the Group’s and Parent’s financial assets and liabilities that are measured at fair value.

GROUP

Level 1

Level 2

Level 3

Total

31 March 2014

$000

$000

$000

$000

 

 

 

 

 

 

Assets per the statement of financial position

 

 

 

 

 

Interest rate derivative assets

 

-

4,271

-

4,271

Electricity price derivative assets

 

-

-

2,587

2,587

Exchange rate derivative assets

 

-

2,781

-

2,781

 

 

-

7,052

2,587

9,639

 

 

 

 

 

 

Liabilities per the statement of financial position

 

 

 

 

 

Interest rate derivative liabilities

 

-

9,315

-

9,315

Electricity price derivative liabilities

 

-

-

7,558

7,558

Exchange rate derivative liabilities

 

-

-

-

-

 

 

-

9,315

7,558

16,873

 

 

 

 

 

 

 

 

Level 1

Level 2

Level 3

Total

31 March 2013

 

$000

$000

$000

$000

 

 

 

 

 

 

Assets per the statement of financial position

 

 

 

 

 

Interest rate derivative assets

 

-

5,288

-

5,288

Electricity price derivative assets

 

-

-

1,488

1,488

Exchange rate derivative assets

 

-

2,395

-

2,395

 

 

-

7,683

1,488

9,171

 

 

 

 

 

 

Liabilities per the statement of financial position

 

 

 

 

 

Interest rate derivative liabilities

 

-

22,628

-

22,628

Electricity price derivative liabilities

 

-

-

14,862

14,862

Exchange rate derivative liabilities

 

-

2,237

-

2,237

 

 

-

24,865

14,862

39,727

 

 

 

 

 

 

PARENT

 

Level 1

Level 2

Level 3

Total

31 March 2014

 

$000

$000

$000

$000

 

 

 

 

 

 

Assets per the statement of financial position

 

 

 

 

 

Interest rate derivative assets

 

-

2,906

-

2,906

Electricity price derivative assets

 

-

-

2,587

2,587

Exchange rate derivative assets

 

-

-

-

-

 

 

-

2,906

2,587

5,493

 

 

 

 

 

 

Liabilities per the statement of financial position

 

 

 

 

 

Interest rate derivative liabilities

 

-

4,146

-

4,146

Electricity price derivative liabilities

 

-

-

7,558

7,558

Exchange rate derivative liabilities

 

-

-

-

-

 

 

-

4,146

7,558

11,704

 

 

 

 

 

 

 

 

Level 1

Level 2

Level 3

Total

31 March 2013

 

$000

$000

$000

$000

 

 

 

 

 

 

Assets per the statement of financial position

 

 

 

 

 

Interest rate derivative assets

 

-

4,558

-

4,558

Electricity price derivative assets

 

-

-

1,488

1,488

Exchange rate derivative assets

 

-

1,346

-

1,346

 

 

-

5,904

1,488

7,392

 

 

 

 

 

 

Liabilities per the statement of financial position

 

 

 

 

 

Interest rate derivative liabilities

 

-

13,431

-

13,431

Electricity price derivative liabilities

 

-

-

14,862

14,862

Exchange rate derivative liabilities

 

-

-

-

-

 

 

-

13,431

14,862

28,293

The following financial assets are subject to offsetting, enforceable master netting arrangements and similar agreements.

Gross amounts of recognised financial
assets

Gross amounts of recognised financial liabilities set
off in the balance sheet

Net amounts
of financial assets presented in the balance sheet

Related financial instruments
not set off
in the
balance sheet

Net amount

 

$000

$000

$000

$000

$000

GROUP

As at 31 March 2014

Derivative financial assets

2,550

-

2,550

(1,712)

838

 

2,550

-

2,550

(1,712)

838

 

 

 

 

 

 

As at 31 March 2013

 

 

 

 

 

Derivative financial assets

1,388

-

1,388

(297)

1,091

 

1,388

-

1,388

(297)

1,091

 

 

 

 

 

 

PARENT

 

 

 

 

 

As at 31 March 2014

 

 

 

 

 

Derivative financial assets

2,550

-

2,550

(1,712)

838

 

2,550

-

2,550

(1,712)

838

 

 

 

 

 

 

As at 31 March 2013

 

 

 

 

 

Derivative financial assets

1,388

-

1,388

(297)

1,091

 

1,388

-

1,388

(297)

1,091

 

The following tables present the changes during the year of the level 3 instruments being electricity price derivatives.

GROUP

PARENT

2014

$000

2013

$000

2014

$000

2013

$000

 

 

 

 

 

 

Assets per the statement of financial position

 

 

 

 

 

Opening balance

 

1,488

8,357

1,488

8,357

Gains and (losses) recognised in profit or loss

 

 

 

 

 

Realised in energy cost expense

 

4,275

(2,442)

4,275

(2,442)

Unrealised

 

(3,176)

(4,427)

(3,176)

(4,427)

Gains and (losses) recognised in other comprehensive income

 

 

 

 

 

Realised in energy cost expense

 

-

1,949

-

1,949

Unrealised

 

-

(1,949)

-

(1,949)

Closing balance

 

2,587

1,488

2,587

1,488

 

 

 

 

 

 

Total gains or (losses) for the period included in profit
or loss for assets held at the end of the reporting period

 

1,679

1,447

1,679

1,447

 

 

 

 

 

 

Liabilities per the statement of financial position

 

 

 

 

 

Opening balance

 

14,862

4,207

14,862

4,207

(Gains) and losses recognised in profit or loss

 

 

 

 

 

Realised in energy cost expense

 

(2,068)

(6,349)

(2,068)

(6,349)

Unrealised

 

5,942

(46)

5,942

(46)

(Gains) and losses recognised in other comprehensive income

 

 

 

 

 

Realised in energy cost expense

 

(7,219)

(4,956)

(7,219)

(4,956)

Unrealised

 

(3,959)

22,006

(3,959)

22,006

Closing balance

 

7,558

14,862

7,558

14,862

 

 

 

 

 

 

Total (gains) or losses for the period included in profit
or loss for liabilities held at the end of the reporting period

 

4,407

14,383

14,383

14,383

 

 

 

 

 

 

Settlements during the year

 

(3,959)

(794)

(3,959)

(794)

Electricity price derivatives are classified as Level 3 because the assumed location factors which are used to adjust the forward price path are unobservable.

A sensitivity analysis showing the effect on the value of the electricity price derivatives of reasonably possible alternative price path assumptions is shown in section (a) of this note.

Capital Risk Management Objectives
The Group’s objectives when managing capital are to safeguard the Group’s ability to continue as a going concern so that it can continue to provide returns for shareholders and benefits for other stakeholders and to maintain an optimal capital structure to reduce the cost of capital.

In order to maintain or adjust the capital structure, the Group may adjust the amount of dividends paid to shareholders, return capital to shareholders, issue new shares or sell assets to reduce debt.

Consistent with others in the industry, the Group monitors capital on the basis of the gearing ratio. This ratio is calculated as net debt divided by total capital.

  • Net debt is calculated as total borrowings less short term deposits. Total borrowings are calculated using a value of unsecured bank loans plus unsecured subordinated and senior bonds.
  • Total capital funding is calculated as total equity as shown in the statement of financial position, adjusted for the fair value of financial instruments, plus net debt.

The gearing ratio is calculated below:

GROUP

PARENT

Note

2014

$000

2013

$000

2014

$000

2013

$000

Net debt

Unsecured bank debt

27

722,520

460,192

142,102

108,983

Unsecured subordinated bonds

28

238,211

292,375

238,211

292,375

Unsecured senior bonds

29

213,498

212,838

213,498

212,838

Cash and cash equivalents

19

(31,723)

(53,972)

(2,614)

(31,117)

 

 

1,142,506

911,433

591,197

583,079

Equity

Total equity

1,514,532

1,551,763

1,351,174

1,371,900

Remove net effect of fair value of financial instruments after tax

17

(614)

9,390

1,333

8,559

 

 

1,513,918

1,561,153

1,352,507

1,380,459

Total capital funding

 

2,656,424

2,472,586

1,943,704

1,963,538

 

 

 

 

 

 

Gearing ratio

 

43%

37%

30%

30%