Market risk

Market risk is the possibility that changes in currency exchange rates, interest rates or commodity prices will adversely affect the value of the Group’s financial assets, liabilities or expected future cash flows. Saipem actively manages market risk in accordance with a set of policies and guidelines that provide a centralised model of conducting finance, treasury and risk management operations based on the Group Treasury Structures.

 

Exchange rate risk

Exchange rate risk derives from the fact that Saipem’s operations are conducted in currencies other than the euro and that revenues and costs from a significant portion of projects implemented are denominated in or linked to non- euro currencies. This impacts on:

- profits, which may be significantly affected by exchange rate fluctuations on specific transactions arising from the time lag existing between the execution of a given transaction and the definition of the relevant contractual terms (economic risk) and by the conversion of foreign currency

-denominated trade and financial payables and receivables (transaction risk);

- the Group’s reported results and shareholders’ equity, as financial statements of subsidiaries denominated in currencies other than the euro are translated from their functional currency into euro (translation risk).

Saipem’s foreign exchange risk management policy is to minimise economic and transactional exposures arising from foreign currency movements. Saipem does not normally undertake any hedging activity for risks deriving from the translation of foreign currency denominated profits or assets and liabilities of subsidiaries that prepare financial statements in a currency other than the euro, except for single transactions evaluated on a case-by-case basis. Saipem enters into a number of different types of derivative contract to reduce economic and transaction exposure, such as currency swaps, forwards and options, mainly with Eni Group companies. Such derivatives are evaluated by the Eni Corporate Finance Unit of Eni SpA at fair value on the basis of market prices provided by specialised sources. Planning, coordination and management of this activity at Group level is responsibility of the Saipem Treasury Department, which closely monitors the correlation between derivatives and their underlying flows as well as ensuring their correct accounting representation in compliance with the International Financial Reporting Standards. An exchange rate sensitivity analysis was performed for those currencies other than euro for which exchange risk exposure in 2009 was highest (the US dollar, UK pound sterling and the Norwegian kroner) in order to calculate the effect on the income statement and shareholders’ equity of hypothetical positive and negative variations of 10% in the exchange rates. The analysis was performed for all relevant financial assets and liabilities denominated in the above currencies and regarded in particular the following items:

- exchange rate derivatives;

- trade and other receivables;

- trade and other payables;

- cash and cash equivalents;

- short and long

-term financial liabilities.

For exchange rate derivatives, the sensitivity analysis on fair value was conducted by comparing the conditions underlying the forward price fixed in the contract (i.e. spot exchange rate and interest rate) with spot rates and interest rate curves corresponding to the relevant contractual maturity dates, on the basis of period end exchange rates subjected to hypothetical positive and negative changes of 10%, with the resulting effects weighted on the basis of the notional amounts. The analysis did not examine the effect of exchange rate fluctuations on the measurement of work in progress, as under IAS 32, work in progress does not constitute a financial asset. Moreover, the analysis regards exposure to exchange rate risk in accordance with IFRS 7 and therefore does not consider the effects of the conversion of financial statements of consolidated companies with functional currencies other than the euro. A positive variation in exchange rates between the foreign currencies examined and the euro (i.e. depreciation of the euro against the other currencies) would have produced an overall effect on pre tax profit of -€61 million (-€18 million at December 31, 2009) and an overall effect on shareholders’ equity, before related tax effects, of -€490 million (-€225 million at December 31, 2009). Meanwhile, a negative variation in exchange rates between the foreign currencies examined and the euro (i.e. appreciation of the euro against the other currencies) would have produced an overall effect on pre tax profit of €75 million (€53 million at December 31, 2009) and an overall effect on shareholders’ equity, before related tax effects of €427 million (€252 million at December 31, 2009). The increase (decrease) with respect to the previous period is essentially due to the currency exchange rates on the two reference dates and to variations in the assets and liabilities exposed to exchange rate fluctuations.

 

Interest rate risk

The risk exposure arising from interest rate fluctuations within the Saipem Group is associated mainly with long-term financing with variable rates. To reduce this risk, Interest Rate Swaps (IRS) are entered into, mainly with Eni Group companies, as they also ensure a balanced relation between debt at fixed and variable interest rates. Such derivatives are evaluated at fair value by the Treasury Department of Eni SpA on the basis of market prices provided by specialised sources. Planning, coordination and management of this activity at Group level is the responsibility of the Treasury Department. To measure sensitivity to interest rate risk, a sensitivity analysis was performed. The analysis calculated the effect on the income statement and shareholders’ equity of hypothetical positive and negative variations of 10% in interest rates. The analysis was performed for all relevant financial assets and liabilities exposed to interest rate fluctuations and regarded in particular the following items:

- interest rate derivatives;

- cash and cash equivalents;

- short and long

-term financial liabilities.

For interest rate derivatives, the sensitivity analysis on fair value was conducted by comparing the interest rate conditions (fixed and variable rate) underlying the contract and used to calculate future interest rate differentials with discount curves for variable interest rates on the basis of year end interest rates subjected to hypothetical positive and negative changes of 10%, with the resulting changes weighted on the basis of the notional amounts. For cash and cash equivalents, the analysis used the average balance for the period and the average rate of return for the period, while for short and long-term financial liabilities, the average exposure for the period and average interest rate were considered. A positive variation in interest rates would have produced an overall effect on pre tax profit of - €2 million (-€6 million at December 31, 2009) and an overall effect on shareholders’ equity, before related tax effects of -€2 million (-€5 million at December 31, 2009). A negative variation in interest rates would have produced an overall effect on pre tax profit of €2 million (€6 million at December 31, 2009) and an overall effect on shareholders’ equity, before related tax effects of €2 million (€5 million at December 31, 2009). The increase (decrease) with respect to the previous period is essentially due to the interest rates on the two reference dates and to variations in the assets and liabilities exposed to interest rate fluctuations.

 

Commodity risk

Saipem’s results are affected by changes in the prices of oil products (fuel oil, bunker oil, etc.) and raw materials, since they represent associated costs in the running of vessels, offices and yards and the implementation of projects and investments. To manage its commodity risk exposure, Saipem uses derivatives traded over the counter (swaps, forward, contracts for differences) through Eni Trading & Shipping (ETS) on the organised markets of ICE and NYMEX (futures), with the underlying commodities being oil products (ICE gasoil). In order to mitigate risks during the execution phase of a project, index linking clauses or other agreements with the Client may be proposed during the bid phase. Commodity derivatives are evaluated at fair value on the basis of market prices provided by specialised sources or, in the absence of market prices, through Eni finance companies, in accordance with Group guidelines regarding centralised financial management. With regard to commodity risk hedging instruments, a 10% positive variation in the underlying rates would not have produced any significant effect on pre tax profit (€0.1 million at December 31, 2009) and an overall effect on shareholders’ equity, before related tax effects, of €6 million (€6 million at December 31, 2009). A 10% negative variation in the underlying rates would not have produced any significant effect on pre tax profit (€0.1 million at December 31, 2009) and an overall effect on shareholders’ equity, before related tax effects, of -€6 million (-€6 million at December 31, 2009). The increase (decrease) with respect to the previous period is essentially due to the differences between the prices used in calculating the fair value of the instrument at the two reference dates.

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