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Risk management

A number of factors affect, or could affect, Fagerhult Group’s business, both directly and indirectly.

Described, in no particular order and without claiming to be exhaustive, are the risk factors Fagerhult Group believes may affect its operations and future development. The risks described below are not the only risks to which Fagerhult Group and its shareholders may be exposed. Additional risks that are not currently known to Fagerhult Group may also adversely affect Fagerhult Group’s operations, financial position and/or earnings.

Financial risks


Currency risk

Transaction exposure

The Group’s transaction exposure arises primarily in the Swedish companies where a large proportion of revenue is generated by the global sales organisation and is not in SEK. Other companies mainly conduct operations in their national markets where revenue and costs are in the same currency as each company’s functional currency.

Aside from currency risks on sales by the Swedish companies, risks also arise from the import of raw materials and components. Altogether, the Swedish companies have a surplus inflow of foreign currency. The direct commercial foreign exchange flow, after net calculations of flows in the same currencies, shows a surplus of MSEK 56 (8). In addition to this, there is also an indirect impact in conjunction with the purchase of raw materials and components. This results, over time, in a lower net exposure for the Group.

The Group’s policy is to hedge all significant net cash flows. Incoming flows of foreign currency should be used for payment in the same currency. In addition, a certain portion of the anticipated net inflow from sales and purchases is hedged by means of forward contracts after individual assessment at 50 per cent for the coming six-month period. On statistical assessment of the foreign-exchange position, a change in the Swedish krona against other currencies of 1 per cent, with all other variables being constant, would impact the Group’s earnings by about MSEK 1 (1). The financial instruments are managed by the Parent Company’s senior management. The Group does not apply hedge accounting for these contracts.

Translation exposure

Currency risk also arises in conjunction with the translation of foreign net assets and earnings, so-called translation exposure. This currency risk is not hedged and refers, primarily, to the translation of foreign subsidiaries’ income statements and balance sheets. Earnings from foreign subsidiaries are translated into Swedish krona based on the average exchange rate for the year. The exposure of the Group’s net assets outside of Sweden has increased as operations there have changed from previously pertaining to sales companies, to now also including production units. On the closing date, net assets in foreign companies corresponded to MSEK 6,173 (5,700) including goodwill. The Group applies hedge accounting where the purchase consideration for acquired companies has to some extent been financed through borrowing in the acquired company’s local currency. Net assets abroad that are subject to hedge accounting amounted to MSEK 306.6 (289.8) and accumulated borrowings of MSEK 213.7 (196.4), which reflects a hedging quotient of 70 per cent (68). Annual translation differences rec¬ognised in other comprehensive income concerning borrowings as hedged net assets amounted to MSEK 17.3 (1.0) before deferred tax of MSEK 3.6 (0.2). Annual translation differences recognised in other comprehensive income concerning borrowings as hedged net assets amounted to MSEK 27.6 (10.2) before deferred tax of MSEK 5.7 (2.1).

A weakening of the Swedish krona by 1 per cent with all other variables remaining constant would result in an increase in equity of MSEK 62 (57) largely due to gains/ losses on the translation of EUR and GBP. A change in the Swedish krona of 1 per cent against other currencies would result in a direct impact on net sales in the subsidiaries of approximately MSEK 71 (60).

Interest-rate risk

Fagerhult Group holds no significant interest-bearing assets, which is the reason the Group’s income and cash flow from operating activities are, in all material aspects, independent of changes in market interest rates.

The Group’s interest-rate risk arises in conjunction with long-term borrowing. In addition to pension liabilities of MSEK 173.1 (173.4), interest-bearing liabilities totalled MSEK 3,349.5 (3,419.2) and cash and cash equivalents were MSEK 1,291.7 (1,741.5). Borrowing on the basis of floating interest rates exposes the Group to interest-rate risk as regards cash flow. Borrowing on the basis of fixed interest rates implies an inter¬est-rate risk for the Group in terms of fair value. Group policy is to use a fixed-interest period of three months. During 2022 and 2021, the Group’s borrowings largely comprised loans with three-month fixed interest rates.

The Group analyses its exposure to interest-rate risk on a dynamic basis. Various scenarios are simulated, whereby refinancing, re-negotiation of existing trading positions, alternative financing and hedging are taken into consideration. Based on these scenarios, the Group calculates the earnings impact from a given change in interest rates. In each simulation, the same change in the interest rate is applied for all currencies. The scenarios are simulated only for those liabilities comprising the largest inter¬est-bearing positions. Simulations performed show that the earnings impact of a 1 per¬centage point change would be a maximum of MSEK 33 (34), with the current capital structure. The simulation is conducted quarterly to verify that the maximum possible loss is within the limits established by the executive management.

If interest rates on borrowing in Swedish krona as of 31 December 2022 had been 10 (10) points higher/lower, but all other variables had been constant, then gains after tax for the financial year would have been MSEK 2.6 (2.6) higher/lower, primarily as an effect of higher/lower interest expenses for borrowings with floating interest rates.

Credit risks

Credit risks are managed at Group level. Credit risks arise if the counterparty does not fulfil its commitments in conjunction with lending within the framework of cash manage¬ment policies and through credit exposure to clients and banks, including receivables and agreed transactions. If the Group’s customers have received a credit rating from an independent rating institution, these ratings are used. Where no independent credit assessment exists, a risk assessment is made of the customer’s credit status in which the entity’s financial position is considered, as well as previous experience and other factors. Individual risk limits are set based on internal or external credit ratings, in accor¬dance with the limits set by the Group management. The application of credit limits is fre¬quently reviewed. No significant losses occurred in either 2022 or 2021. Of the trade receivables carrying amount, MSEK 450 (468) is covered by credit insurance. A total provision of MSEK 72 (97) was made for expected credit losses. The average confirmed credit losses amounted to 0.10 per cent (0.06) of net sales calculated for the next five years.

Liquidity risk

Liquidity risk is managed by ensuring that the Group has sufficient cash and cash equiva¬lents and short-term investments in a liquid market, available financing through agreed credit facilities and the possibility to close market positions. The Group has a strong financial position. At present, no new borrowing requirements exist, but should such requirements arise, there is currently no difficulty in obtaining external credit, as long as such credit meets certain covenants, on the borrower, such as debt-to equity and interest coverage ratio, which are at present satisfied. Management also meticulously follows rolling forecasts for the Group’s liquidity reserve on the basis of anticipated cash flows.

Capital risk

The Group’s objective with regard to the capital structure is to secure the Group’s ability to continue operating, so that it can continue to generate returns for shareholders and benefits for other stakeholders, and to maintain an optimal capital structure to keep the cost of capital down. To maintain or adjust the capital structure, the Group may change the dividend paid to shareholders, repay capital to shareholders, issue new shares or sell assets to reduce debt. The Group monitors capital on the basis of debt/equity ratio. This ratio is calculated as interest-bearing liabilities in relation to equity. The debt/equity ratio on 31 December 2022 was 2.5 per cent (2.3).

Operational risks


Structural changes and changes in economic conditions

Market demand for the Group’s products, and thereby the Group’s sales, are impacted by factors outside of the Group’s control. An economic downturn in the markets where the Group operates could result in lower demand for the Group’s products. The most material sensitivity to the economic cycle is assessed at present to be the parts of the Group’s operations that deliver to customers in the construction and property sectors, and customers in the retail sector. In the same manner, structural changes in the markets where the Group operates could give rise to lower demand for the Group’s products. For example, changed consumption patterns and an accelerated transition from physical stores to online stores could negatively impact the segment of the Group’s operations that delivers to stores and warehouses. In both cases, the changes will negatively affect the Group’s operations, earnings and financial position. Moreover, there is a risk that the Group’s customers in sectors that are currently less sensitive to the economy would be negatively affected by extended periods of weak economic growth, high unemployment or other negative economic trends, primarily in Europe, or general concerns in the euro-zone, with a resulting decline in the capacity to pay. Accordingly, an economic downturn could negatively impact the Group’s operations, earnings and financial position.

Competition

The Group meets direct competition in all product segments and in all geographic markets. The Group’s long-term growth and earnings are therefore dependent on adapting to customers’ needs, changes in industry requirements and on introducing attractive new products and services, in parallel with maintaining competitive pricing. To maintain its competitiveness, the Group must predict customers’ needs and ensure it develops the products and services in demand with and accepted by these customers. Should the Group fail to maintain a competitive position in terms of quality, product prices, security of supply, brand recognition and a broad product offering, and/or fail to adapt to changes in market conditions or otherwise successfully compete with its competitors, this could have a negative effect on the operations, earnings and financial position of the Fagerhult Group. All segments and all markets entail the risk of new competitors capturing market shares with the support of a product offering with which the Group cannot compete. Such competing products and services could reduce demand for the products provided by the Group. This could negatively impact the Group’s operations, earnings and financial position.

Geopolitical and macroeconomic risks

The Group has operations in about 28 countries. The operations are exposed to risks related to geopolitical concerns and instability as a result of, for example, political or diplomatic crises. war, terrorism, regional or cross-border conflicts, natural catastrophes, strikes and other geopolitical circumstances in the jurisdictions where the Group conducts its international operations. Over the last two years, the operations have faced geopolitical challenges in, for example, Turkey and Russia.

The Group also imports products to the UK and is thereby exposed to risk related to Brexit. Factors and events similar to the above in the operating environment could negatively impact the Group’s operations, earnings and financial position.

Inventory risk

Products held in inventories entail a risk of becoming obsolete as a result of outdated technology or over production, if the Group is unable to adapt production to technological developments or to customer preferences. In both cases, the changes could negatively affect the Fagerhult Group’s operations, earnings and financial position.

Operational risk

The Group’s operations depend on reliable and efficient production units to ensure that the products are delivered on time and meet quality expectations. The Group’s operations could be affected by operational disruptions due to, inter alia, late or incorrect deliveries, technical faults, labour law measures, accidents or erroneous administrative routines. There is also a risk that those measures taken by the company to avoid disruptions prove inadequate should a larger disruption occur. This could negatively impact the Group’s operations, earnings and financial position.

Supplier risk

To be able to manufacture, sell and deliver products, the Group depends on external suppliers’ availability, production, quality assurance and deliveries. Moreover, the Group is dependent on a few main suppliers for LED components, which would take a long time to replace. Faulty, late or missed deliveries from suppliers of different kinds could entail that the Group’s deliveries are in turn delayed or cancelled, or are faulty or incorrect, which could have negative consequences for the Group’s customer relations and lead to lower sales. This could negatively impact the Group’s operations, earnings and financial position.

Risks pertaining to operating costs

The Group’s costs for manufacturing products are impacted by costs for, inter alia, purchasing manufacturing input materials. Those individual components that most impact costs comprise electronic components and sheet metal. Large price changes for input material purchased by the Group could entail a negative impact on the Group’s operations, earnings and financial position.

In terms of the cost of adding value in the form of manufactured products, wage trends for employees track the general wage trends in the labour markets of the respective countries, which in turn is largely dependent on the economy as a whole. Unexpected large wage increases and/or increased average sick leave among the Group’s staff could entail a negative impact on the Group’s operations, financial position and earnings. The cost of adding value to manufactured products also includes energy costs, which are dependent on developments in the environmental and energy sectors. Rising energy costs could entail a negative impact on Fagerhult Group’s operations, earnings and financial position.

Product liability

The Group’s products expose the Group to potential claims if the products do not function as expected or prove to be defect, or if use of the products causes, results in, or is claimed to have caused or resulted in personal injuries, damage to property or other negative effects. The Group’s products make various safety risks relevant, including electrical risks, mechanical risks, thermal risks and exposure to electromagnetic fields. Requirements covering product liability, irrespective of whether they pertain to project delays or other injuries, could prove costly and time-consuming to defend and could potentially damage the Group’s reputation and result in material negative effects for the Group’s operations, earnings and financial position.

Insurance

The Group purchases and manages Group-wide insurance policies for property and liability risks, thereby creating co-ordination gains and cost advantages. The Group’s insurance programme encompasses, inter alia, a global liability insurance, which covers general liability and product liability. Limits apply to the scope and amounts of the insurance cover. For example, the cover does not encompass liability for delays and faults that do not lead to product liability. There is a risk that the Group does not receive full compensation for any damage that arises or claims that can be directed at the company, which could have negative consequences for the Group’s operations, earnings and financial position.

Dependence on key individuals

The Group is dependent on being able to retain and recruit employees and senior management with key competence. There is a risk that one or more members of senior management or key individuals leave the Group at short notice. Where the Group fails to retain such key personnel, and/or fails in the future to recruit key personnel, this could have negative consequences for the Group’s operations, earnings and financial position.

Permits

Several of the manufacturing companies in the Group have operations that in some form require permits. The Group currently possesses all necessary permits, mainly environment-related, for conducting operations. However, there is a risk that these permits may not be renewed or may be withdrawn or limited. Moreover, there is a risk that the Group’s interpretation of applicable laws and provisions concerning the Group’s operations, or the relevant authorities’ interpretation of these or their own established practices, are not entirely correct, or that such rules, interpretations or practices are changed. Such changes could entail more permits being required for operations, which could be both time-consuming and costly as well as negatively impact on the Group’s operations, earnings and financial position.

The environment

The operations of the Group have an environmental impact. As a result of the nature of the operations, a risk exists that pollution or environmental damage is caused or has been caused in the operations run by the Group. There is also a risk that the operations previously conducted by other businesses at a plant or property, and which are now owned by the Group, may have given rise to pollution or environmental damage. Under current Swedish environmental legislation, the entity conducting operations that have contributed to environmental damage bears responsibility for rectifying the damage. If the business is unable to or lacks sufficient funds to rectify the damage, the acquirer of the property, who at the time of the acquisition was aware of or should have discovered the pollution, is responsible. This means that, under certain conditions, claims could be directed at the Group for investigation, treatment or other remedial measures in the event of the presence or suspicion of pollution contaminating soil, bodies of water or groundwater. Such claims could negatively impact on the Group’s operations, earnings and financial position. A risk exists that future changes in environmental regulations could entail increased expenses and costs to enable continued production. Developments in Sweden and internationally are heading towards stricter environmental rules, whereby new permits are normally subject to lower limits for maximum environmental impact. Regulatory changes could require significant new investments to enable continued production. If the Group is unable to meet these changes in a cost-efficient manner or to successfully maintain the necessary permits, this could negatively impact on the Group’s operations, earnings and financial position.

Corruption

Fagerhult Group has operations in about 28 countries on four continents. The Group has a decentralised business model that, inter alia, entails that each subsidiary is responsible for compliance with the Group’s Code of Conduct. The large geographic spread and decentralised control leaves the Group exposed to the risk of corruption. If any member of management at any subsidiary should set aside the Code of Conduct’s rules concerning zero tolerance for corruption, this could damage the Group’s reputation, lead to lost business and leave the company liable to pay fines. This could result in significant negative impacts on the Group’s operations, earnings and financial position.

IT risk

The Group needs to use IT systems to manage, inter alia, deliveries of products and input materials as well as to receive and manage customer orders. A major part of the Group’s operations is aimed at customers who set stringent requirements for reliable and exact deliveries, which in turn sets high requirements for functioning and secure IT systems that are well-integrated with the company’s various business segments. Maintaining, developing and investing in such systems requires significant capital investment and other resources. There is a risk that future investments required in IT systems will be greater than the company’s expectations. Moreover, there is a risk that the company’s IT systems are disrupted by software and hardware issues, computer viruses, hacker attacks and physical damage. Such problems and disruptions could, depending on the extent, negatively impact on the Group’s operations, earnings and financial position. As computer-aided technology has assumed an increasingly greater scope within the companies, security requirements have also increased. The functional security of the databases and e-mail servers is checked via daily backups. Battery backup and diesel generators provide protection against operational disruption in the main manufacturing facility in Habo, from where the majority of the Group’s computer operations are controlled. To date, no costs have arisen as a result of damage. The internet connection is fixed and completely isolated from other networks via hardware firewalls. User access to the system is regulated via Group authorisations and entitlements based on actual assignments and roles within the company.

Sustainability risks


In various ways, Fagerhult Group’s operations are associated with sustainability risks. In conjunction with the preparation of the Sustainability Report, the most significant sustainability risks in our own operations and in our value chain have been identified. We have focused on the specific areas stated in the Swedish Annual Accounts Act where we are of the opinion that operations significantly impact people and the environment: the environment; personnel; societal conditions; respect for human rights; and anti-corruption.

ActivityRiskDescription/management
 The environmentEnergy efficiency and emissionsIncreased cost of energy due to legislation can lead to increased production costs. Fagerhult Group works continuously in all areas of operations to review energy needs and to work as efficiently as possible.
Personnel and societal conditionsWorkplace accidentsFagerhult Group has noted a risk that a workplace accident could occur that could lead to injury or loss of personnel. Fagerhult Group works daily with work environment issues and routines, and works proactively in activities that are assessed as having significant risk for injury.
Human rightsThe risk of Fagerhult Group not respecting human rights is managed by ensuring that all of the Group’s employees are familiar with the company’s Code of Conduct, which is always signed upon employment, and through continuous training in the code.
Anti-corruptionAnti-corruptionCorruption, or any employees breaking the law, can lead to fines and lost business as well as affect Fagerhult Group’s reputation. Fagerhult Group works continuously with the issue and has a Code of Conduct that forms the basis for everything we do and how we act. We conduct company inspections upon acquisition, and all of the Group’s companies are to comply with the applicable laws and regulations.
Sustainable supply chainEthics andhuman rightsFagerhult Group requires contractors to fulfil the ethical standards we set for contractors and subcontractors and demands human rights be respected. During the year, a Code of Conduct for contractors has been implemented at Fagerhults Belysning, and Fagerhult Group applies the prudence concept for all relationships.