UPM Annual Report 2016

Accounts

In brief

Strategy

Businesses

Stakeholders

Governance

Risks Risk management

Operational risks

TYPE OF RISK

RISK DESCRIPTION

cover is always subject to the applicable insurance conditions. The main risk factors that can materially affect the company’s business and financial results are set out below. They have been classified as strategic risks, operational risks, financial risks and hazard risks. Risks may also arise from legal proceedings incidental to UPM’s operations.

UPM regards risk management as a systematic and proactive means to analyse and manage the opportunities and threats related to its business operations. This includes also risks avoided by careful planning and evaluation of future projects and business environment. UPM seeks to transfer insurable risks through insurance arrangements if the risks exceed the defined tolerance. The insurance

Earnings uncertainty

The main short-term uncertainties in UPM’s earnings relate to sales prices and delivery volumes of the group’s products, as well as to changes in the main input cost items and exchange rates. Most of these items are dependent on general economic developments. In 2016, third-party suppliers accounted for approximately 83% of UPM’s wood requirements. Other production inputs, such as chemicals, fillers and recovered paper, are obtained from third-party suppliers. Disruptions in the supply of key inputs would impact upon manufacturing operations, for example, by interrupting or resulting in the downscaling of production or a change in the product mix. They could also cause price increases for critical inputs or shifts in the availability and price of wood. It is also uncertain how the EU energy policies may impact upon the availability and costs of fibre and energy. Investment projects in UPM businesses such as energy, pulp, paper or biofuels are often large and take one or more years to complete. UPM has experience in such projects in various businesses and locations around the world, and applies vigorous planning, project management and follow-up processes. Participation in large projects involves risks such as cost overruns or delays, as well as achievement of the economic targets set for the investment. UPM currently works together with many partners without control over strategic direction and operational output. The highly competitive market situation and, for example, new developments in biofuels or bioenergy are likely to increase the importance of partnerships in the search for higher efficiency or new products and businesses. Partnerships, however, may create risks to the profitability, for example, through changes occurring within the partner entity or changes in how the partnership operates. UPM business operations depend on the availability of supporting information system and network services. Unplanned interruptions in critical information services can potentially cause a major interruption of UPM business areas. UPM has implemented numerous technical, physical and process improvements to mitigate the availability and security risks and to reduce the service interruption related recovery time to acceptable level. The UPM Code of Conduct sets the standards of responsible behaviour towards UPM stakeholders. They apply to every employee. The code covers topics relating to legal compliance and disclosure, conflicts of interest, gifts and bribes, HR practices, human rights questions and environmental matters. UPM’s environmental performance and social responsibility play a significant role in UPM’s ability to operate and influence the long-term success of its businesses. Negligence or breach of Code of Conduct may lead to legal processes or serious reputational damages impacting the value of the company. UPM ensures that employees are aware of the Code by regular trainings, the company maintains a report misconduct channel and carries out regular audits in its supply chain.

Availability and price of major inputs

Strategic risks

TYPE OF RISK

RISK DESCRIPTION

Project execution

Competition, markets and customers

The energy, pulp, timber, paper, label, plywood and biofuels markets are cyclical and highly competitive. In all of these markets the price level is determined as a combination of demand and supply, and shocks to either demand (decrease/ increase in end-use demand, change in customer preferences etc.) or supply (e.g. new production capacity entering the market or old capacity being closed) may impact both the volume and the price level for UPM. Also competitor behaviour influences the market price development. UPM performance is also impacted by the performance of substitute or alternative products. Most notably, the demand in graphical papers in the mature markets is forecasted to continue to decline, due to the shift away from print media to electronic media. Similarly, several raw materials used by UPM have competing end uses. Consumers’ environmental awareness has also increased, and this may have either a positive or negative impact on the consumption of UPM’s products, depending on the product area. UPM sells a proportion of its products to several major customers. The largest customer in terms of sales represented approximately 3% of UPM’s sales in 2016, and the ten largest customers represented approximately 16% of such sales. UPM is exposed to a wide range of laws and regulations. The performance of UPM businesses, for example the biofuels business, the paper businesses and the energy business, are to a high degree dependent on the current regulatory framework, and changes to regulation, direct and indirect taxation or subsidies would have a direct impact on the performance of UPM. In addition, regulation may structurally restrict or exacerbate UPM’s ability to compete for raw material. UPM’s environment related processes and management are based on full compliance with such laws and regulations, and environmental investments, audits and measurements are carried out on a continuous basis. UPM is currently not involved in any major proceeding concerning environmental matters, but the risk of substantial environmental costs and liabilities is inherent in industrial operations. UPM has major manufacturing locations in Finland, Germany, the UK, France and the US. In these countries, the slow development of the individual economies and/or of Europe as a whole influences adversely UPM’s performance. Furthermore, policies (on European and/or national level) that hamper economic growth or lower the competitiveness of UPM (for example through adverse regulation or increase in direct or indirect taxation) may have an adverse impact on UPM’s performance. In the developed countries, the unpredictability of regulation may lead to an increasing uncertainty and risk level when investing in or operating in these countries. UPM has manufacturing operations in a number of emerging market countries, such as China, Uruguay and Russia. In the emerging market countries, the lack of transparency and predictability of the political, economic and legal systems may lead to an increasing uncertainty and risk level when investing in, or operating in these countries. These uncertainties may materialize as unfavourable taxation treatment, trade restrictions, inflation, currency fluctuations and nationalisation of assets.

Partnerships

Ability to recruit and retain skilled employees To meet the challenges of sustaining growth and improving the effectiveness of operations, a skilled workforce is necessary. UPM is continuously evaluating its recruitment, compensation and career development policies and taking measures to attract and retain skilled personnel, thereby seeking to avoid shortages of appropriately skilled personnel in the future.

M&A and changes in the business portfolio UPM’s strategic direction is to increase the share of growing businesses with positive long-term fundamentals. This may require acquisitions of new businesses or divestments of existing businesses. Participation in M&A involves risks such as successful implementation of a divestment and the ability to integrate and manage acquired operations and personnel successfully, as well as to achieve the economic targets set for an acquisition/divestment.

Availability and security of information systems

Regulation

Risks related to non-compliance

Political and economical risks

Financial risks Financial risks are described in consolidated financial statements 2016.

TYPE OF RISK

CONSOLIDATED FINANCIAL STATEMENT NOTE

Credit risk

4.6 Working capital

Liquidity and refinancing risk

5.1 Capital management

Interest rate risk

6.1 Financial risk management 6.1 Financial risk management 6.1 Financial risk management

Foreign exchange risk Electricity price risk

Hazard risks UPM operates a significant number of manufacturing facilities globally, mostly UPM- owned, and is also the largest private owner of forestland in Finland. UPM is exposed to risks in areas such as occupational health and safety, environment, fire, natural events and site security. These risks are managed through established management procedures and loss prevention programmes. UPM’s insurance programme also provides coverage for insurable hazard risks, subject to terms and conditions.

CONTENTS

ACCOUNTS

98

99

UPM Annual Report 2016

UPM Annual Report 2016