2.4.1. Operating risks
RISK OF LIABILITY FOR DEFECTIVE PRODUCTS
The DIA Group business is exposed to the risks of civil liability inherent in the marketing of food products. Despite the fact that the DIA Group does not directly produce any of the products it distributes, it cannot be guaranteed that no liability complaints will be presented against the DIA Group.
The safety and quality of the products are essential to the maintenance of consumer confidence. A material error in the procedures for control of the integrity of the products could translate to decrease confidence, resulting in a loss of customers and an adverse impact on the "DIA" brand and its reputation, which would affect the "sales" account.
In order to mitigate the possible materialization of this risk, the DIA Group created and implemented an integrated quality management programme, which covers the following matters:
Selection of ingredients/base products: after deciding to develop an own brand product, there is work for technically defining the product, precisely describing the quality specifications thereof. Thereafter, there is a comparative tasting using a representative sample of consumers, in order to evaluate consumer perception of the sensory characteristics and design of the product under development.
Manufacturing: with the adoption by the selected suppliers of strict health and safety measures. Also, before being selected to work with the DIA own brand, suppliers must pass a strict initial approval audit.
Finished product: after development of the product, at each warehouse, there is a department responsible for controlling the quality of the finished products and taking samples from each truck arriving there, with merchandise not meeting the defined quality standards not being accepted.
Also, in order to mitigate this risk, the DIA Group has an insurance policy appropriate in its coverage concerning liability for defective products.
RISKS ASSOCIATED WITH PROVISIONING, PRODUCTION AND DISTRIBUTION
The products sold by the DIA Group are manufactured or sourced principally in the country in which the business is conducted, or the bordering countries. This fact implies, on the one hand, greater dependence on those suppliers and the continuity of their businesses and, on the other hand, greater exposure to such political and economic conditions, labour disputes and disruptions and natural disasters that may occur in the geographical areas in which those suppliers conduct their businesses.
Many of the products distributed by the DIA Group are perishables, for which an inaccurate assessment of demand or the impossibility of maintaining products in stock could complicate stock management and have an adverse impact on the operating results of the Group.
Regarding product distribution, DIA has a series of transport and distribution contracts (activities entirely entrusted to third parties). Any significant interruption in the operations of the transport network, insolvency of the suppliers and transporters, or termination of the aforesaid contracts could result in logistics problems and delays in distribution of products to the retail stores. In addition, non-compliance with tax and Social Security obligations by transporters could result in additional costs for the DIA Group in the form of subsidiary liability.
The fact that suppliers or transporters may not make deliveries, or do not perform their tasks, or that there may be a delay in their deliveries or performance of their tasks, and any additional costs associated with such delays or failures, could result in the generation of additional expenses for the DIA Group and a material adverse impact on its business, financial situation and operating results.
The DIA Group has the following management systems or tools to mitigate the above risks:
DIA bases its competitive strategy in the operating efficiency throughout the value chain based on high technology logistics and information systems.
Regarding the transport of merchandise from the DIA Group logistics platforms to retail stores, the DIA Group has a standard contract that is used to hire transport undertakings that are to load, transport and unload merchandise, in which states the obligation on transport undertakings and their workers to comply with certain internal and quality rules in the performance of the service and to coordinate regarding prevention of employment risks and control procedures to verify compliance by the transporters with their tax and employment obligations.
The logistics platforms or warehouses have software which gives real-time information on the stock in the warehouse, and prepares a daily plan of production and transport within the warehouse.
For the management of retail stores, the DIA Group has developed automated ordering software called APT2, which places the retail store order for each article in accordance with its stock, its sales forecasts, and the expiration date and implementation characteristics of the retail store. This programme also optimises the loading of the truck, improving transport costs.
The DIA Group’s business is subject to a broad range of regulations (labour, environmental, tax, data protection, retail trade, franchising, food handling and safety, competition and other legislation) in the different jurisdictions in which it operates. The differences in the regulatory requirements applicable in each jurisdiction may present a significant challenge from an operational point of view, by requiring that the DIA Group adjust its business to varying regulatory schemes.
The operations of the DIA Group also could be affected by changes in rules applicable to it, in particular by amendments of regulations of opening hours, construction and opening of new stores, establishment of prices and taxes. Any violation of the applicable rules could result in imposition of fines, penalties, administrative sanctions, and even potential sanctions of a criminal nature.
The DIA Group has the responsibility to identify, measure and minimize legal risks continuously observing the regulatory framework applicable and reporting on compliance with legal obligations to internal responsible for operations.
In order to develop and properly fulfil this function, the Company has an organizational structure consisting of a Human Resource Management, a Financial and Fiscal Management and Legal Department in all jurisdictions in which it operates, which have the function of identifying the applicable regulations and monitor compliance.
To properly perform the functions of identification of the regulatory and supervisory framework of compliance, the DIA Group has undertaken the following actions:
Establishment of a process control and monitoring rules.
The DIA Group has what has been termed a "map of regulation", which identifies and details all regulations applicable to the Group, with focus on key legislation in the main processes of the supply chain, and which has been classified into six paragraphs:
legislation applicable to the negotiation process of the product, that is to say, to the DIA Group’s relationship with its suppliers of services and goods, competitors, regulatory boards, brands, etc;
legislation applicable to the logistics activity, that is to say, to the exercise of the activities of warehousing, distribution and transportation of goods;
legislation applicable to the wholesale and retail trade;
legislation applicable to business premises, urban lease, condominium, local taxes, business hours, etc.;
legislation applicable to the relationship between DIA and its customers, protection of personal data, consumption, method of payment, advertising and sales promotion, etc.;
legislation applicable to the DIA Group, as a listed company, on matters of stock market, internal code of conduct, etc.
Those responsible for monitoring, at the same time, are responsible to inform the rest of the Company on the content and scope of the new and/or regulatory changes, designing and holding training sessions, well in classroom mode or in e-learning, when legislative developments had a significant impact on the activity of the DIA Group.
The said persons have established a procedure for monitoring and updating of policy and communication to carry out this function, whereby are defined resources, responsibilities and internal and external tools needed to perform this function and achieve the dual objective of having a regulatory map updated and an organization informed about their legal obligations.
Systems Implementation Compliance.
The DIA Group has established policies and procedures to inform and train employees on certain principles of behaviour and to prevent and detect misconduct. This line included the approval of the first DIA Group Code of Ethics and the creation of an Ethics Consultation and Information Channel, and the implementation of a plan or model of crime prevention in the Company.
Code of Ethics and Ethics Consultation and Information Channel
On 9th May 2012 the DIA Board of Directors approved the first Code of Ethics (available in www.diacorporate.com), result of consensus and reflection of the diversity within the DIA Group. The Company has considered that the Code of Ethics is the best instrument to implement an enforcement policy from the top down, leading by example employees with certain lines of conduct or behaviour. As with the other standards defined by the Company, all employees must comply with the principles of conduct contained in said Code.
DIA has also established an Ethics Consultation and Information Channel (via e-mail and postal address) at group level and at the level of each jurisdiction in which DIA operates in order to clarify questions of interpretation and analyse and resolve potential breaches of the Code, in accordance with internal and external regulations that are applicable. The Ethics Committee at the corporate level is responsible for managing the Ethics Consultation and Information Channel, spreading their existence and overseeing its proper functioning.
Crime Prevention Plan in Spain
The DIA Group has implemented a model of crime prevention in order to establish the most appropriate procedures and internal control policies to prevent the commission of acts contrary to the law and, where appropriate, to reduce or hold harmless the Company after reform of the Organic Law 10/1995 of 23 November, approving the Penal Code.
To this end, we have analysed the activities of the different business areas and the DIA Group assessed the risk of each activity in relation to the commission of offenses in terms of probability and impact, given the controls already in place by the DIA Group to mitigate risks.
Also, it has been designated within the organization, a person responsible for prevention, who will report to the Director of Compliance and Ethics Committee at the corporate level and is responsible for the maintenance and proper functioning of the prevention model.
3.4.2. Financial risks factors
The Group’s global risk management programme focuses on uncertainty in the financial markets and aims to minimize potential adverse effects on the Group and shareholders’ profitability.
Risks are managed by the Group’s Finance Department. This department identifies, evaluates and mitigates financial risks in close collaboration with the Group’s business units.
The Group’s activities are exposed to various financial risks: market risk (exchange rate risk, interest rate risk), credit risk and liquidity risk.
Interest rate risk
The Group Interest rate risk arises from the fluctuations in interest rates which affect to financial costs of non-current borrowings issued at variable interest rates.
In line with its risk management policy, the Group arranges various interest rate hedges to mitigate its risk exposure. At 31 December 2013, the nominal value of outstanding derivatives with external counterparties to hedge the interest rate of long-term financing amounted to EUR585m maturing in 2014 and EUR215m maturing in 2015.
At the end of year 2013 the hedge percentage on the gross debt volume stands at 80.3% versus a hedge of a 35.8% the previous year.
On the other hand, the Group policy for financial assets is to keep ready cash to use. These balances are held in financial institutions with high credit ratings.
Operational: cash flows
Fluctuations in currencies, other than the local currency, may impact positively or negatively on the consolidated accounts. The Group seeks to minimize the risk through the negotiation of forward currency contracts managed by the Group Treasury Department. In year 2013, the amount of annual purchases in foreign currencies, mainly in US dollars, is USD6,165 thousand. The hedged transactions carried out amounted to USD6,165 thousand accounting for 99.99% of the hedge. At the year end, outstanding hedges total USD1,676 thousand and expire in the next twelve months.
The Group holds investments in foreign operations, the net assets of which are exposed to currency risk. Currency risk affecting net assets of the Group’s foreign operations in Argentinian Pesos, Chinese Yuan and Brazilian Reals is mitigated primarily through borrowings in the corresponding foreign currencies. At 31 December 2013 had the Euro strengthened/weakened by 10% against the US Dollar, with the other variables remaining constant, consolidated post-tax profit would have been EUR195 thousand higher/lower (2012: EUR373 thousand), mainly as a result of translating trade receivables and debt instruments classified as available-for-sale financial assets.
Risk on financial instruments
With effect from 21 January 2013, the company has signed an extension to the Equity Swap contract with expiry date 21 July 2013 of 8,086,720 shares and another with expiry date 21 January 2014 of 5,500,000 shares in order to meet payment obligations arising from the LTIP program (Long Term Incentive Plan) to the Group Executives. Details are included in note 16 of the Notes to the Consolidated Annual Accounts for year 2013. The derivative financial instrument is registered in the consolidated Net Equity.
The Group is not significantly exposed to credit risk. The Group has active risk policies to ensure that its wholesale customers have adequate credit quality. Retail sales pose less risk in that they are settled in cash or by credit card.
Derivative and cash transactions are performed with financial institutions that have high credit ratings, with minimum ratings of BBB. In countries where the rating is below that rating, operating with local financial entities considered high credit quality by local standards.
Also, the Group places cash surplus in high credit quality assets and maximum liquidity. Policies established by the Executive Management of the Group are based on criteria of liquidity, solvency and diversification, establishing maximum amounts invested by counterparty, within a maximum term of 90 days of investments duration and definition of the instruments to which the surplus placement is authorized.
Recommendations regarding the information on this type of risk, its possible impact on the Company and the policies carried out by the same in order to mitigate it, are contained in note 3 “Liquidity and capital resources” in section 3.1. Liquidity. We refer to this section.