Risk Classification, Evaluation and Management Methods
In the development of RMS the Company assumes that it is essential to reach an optimum balance between the all-encompassing character of risk management and cost of resources used in the process.
In accordance with this logic the risks are divided into locally and centrally managed risks.
The management of local risks, which are predominantly operational in nature (manifold, diversified and often low-probability, but with significant impact – they are called 'tail risks' in professional terminology), is carried out by the dedicated divisions. The local risks are reclassified as centrally managed risks when their estimated level exceeds certain value, which calls for taking certain measures at the level of the management of the Company or the State Atomic Energy Corporation ROSATOM and allocating additional financial resources.
Centrally managed risks that are monitored continuously include strategic, financial and significant operational risks. Regular Reports are compiled with regard to these risks for the Company's management and the State Atomic Energy Corporation ROSATOM management in order to establish the required ways and measures of addressing these risks. The picture below shows a classification of risks highlighting those groups of risks that impact on the reliability of the Company's supplies in all the three categories – strategic, financial and operational risks.
Quantitative evaluation under the Value at Risk (VaR) methodology is carried out for a 5-year period with regard to the financial and some strategic risks that are caused by uncertainty (volatility) of future market quotations for natural uranium, conversion and enrichment services and macroeconomic parameters – inflation indices, interest rates and some other market uncertainties, including:
- commodity price risk — influence of market quotation volatility and inflation indices on the prices under the Company's contracts and agreements for purchases of uranium products and services, and, consequently, for the revenue, major variable costs and profit margin;
- commodity volume risk — pre-existing uncertainty about the volumes of options ordered by the clients of the Company purchasing uranium products and volume flexibility under the existing long-term contracts, as well as a possibility of changes of quantitative conditions under the new contracts that are being drafted, which impacts on the same future indicators of the Company's activities as the commodity price risk;
- currency risk — influence of uncertainty of exchange rates on the Company's revenue in roubles, its operational (EBITDA) and net profit, as well as other indicators;
- inflation risk — influence of the future inflation indices on the prices, income and expenditure of the Company;
- interest rate risk — impact of possible changes in interest rates on the Company's future interest payments and its cash flow from financial activities;
- credit risk — possible default of the Company's contractors, banks and insurance companies.
The VaR value is estimated with reference to projected revenue, operational revenue (EBITDA), operational and net cash flows, liquidity ratio and turn-round ratios, as well as a net debt factor. Out of many 'tail' operational risks, a risk of delayed shipments due to a closed down port in St. Petersburg is being quantitatively modelled.
The key instrument of risk management for the Company and the State Atomic Energy Corporation ROSATOM in general is the risk preparedness indicator, with which the VaR value is compared. This indicator describes the maximum acceptable losses in a given confidence interval of probability of a combined effect, i.e. essentially it determines the degree of freedom of the Company's management in risk-profitability ratio, which would be approved by the beneficiary of the Company – the State Atomic Energy Corporation ROSATOM. The approval of this indicator by the State Atomic Energy Corporation ROSATOM, planned for 2012, will mean that the Company assumes responsibility not to exceed it in the course of its economic activities.
The Company will adhere to the risk preparedness mainly by means of hedging those risks, which management is the least resource-intensive and provides the biggest reduction of VaR. One of those risks is currency risk: there are plans to carry out not just the natural hedging of this risk (obtaining credit and carrying expenses in foreign currency), but also using derivatives. As far as the commodity price risk is concerned, which has the second largest share in VaR after currency risk, it is deemed to be natural and inevitable for the Company, while the financial instruments for hedging this risk in the uranium market (uranium futures and options) are not sufficiently developed. This objectively requires that the Company develops its trade policy and pricing policy in such a way that neither general risk preparedness, nor the limits of commodity risk are exceeded.
Operational and some strategic risks that are not caused by volatility of market and macroeconomic parameters are evaluated in the Company using FMEA methodology. The objective of this method is to prevent and mitigate an impact of possible failures, errors and dangers on the Company's business process, fulfillment of its obligations, targets and financial and economic results of the Company's operations.
The key reporting forms for risks include:
- risk "pyramid" – graphical representation of the key risks, risk factors and inter-relations between them and the Company's performance indicators which these risks impact upon;
- risk "map" – a database on risks, their "owners", results of identifying risks, assessment and grading of risks, ways of addressing risks, risk management measures and dynamics of changes in risk values; and
- "risk radar" – a graphical representation of a relative value of risks and risk dynamics.