Development of opportunities and risks


The proactive management of risks and opportunities is a core element of our business activities. The RWE Group has a groupwide risk management system for the early identification, as well as standardised reporting, assessment, control and monitoring of risks. We also identify opportunities and associated earning potential.

Organisation of risk management in the RWE Group

Responsibility for the RWE Group’s risk management system sits with the Executive Board of RWE AG. It establishes the rules and minimum standards that ensure groupwide risk management. We have included details on the organisation and processes of our risk management system and the committees entrusted with this task in our 2008 annual report.

Overall assessment of the risk and opportunity situation by executive management

In addition to the political framework of the energy industry, the prevailing economic environment poses a challenge to us. Both these circumstances harbour substantial earnings risks. As illustrated earlier, the recession left deep marks on energy consumption. The generation business is exposed to earnings risks, as the economic crisis may persist for an extended period of time and commodity prices might remain low for years to come. We sold forward most of our electricity generation for 2009 and 2010 before the downturn. A large number of our supply agreements with industrial enterprises, corporate customers and distributors are take-or-pay contracts. So far, customer payment defaults are moderate. We will continue to monitor our contractual partners’ business performance and creditworthiness closely. At present, there are no identifiable risks that could jeopardise the continued operation of RWE AG or the RWE Group.

Major risk and opportunity categories

The following illustrates the risks and opportunities which may have a substantial impact on the RWE Group’s asset, financial, earnings and liquidity positions. Please turn to the annual report for more detailed information.

  • Risks and opportunities arising from the volatility of commodity prices: The development of prices in commodity markets is of central importance to our earnings situation, especially in the field of electricity generation. For example, decreasing electricity prices or rising fuel costs may lead to a decline in generation margin contributions. However, opportunities arise from counteracting price trends. Commodity risks faced by generation and supply companies are managed by following hedging rules established by RWE AG. In the generation business, we limit risks by selling most of our electricity in advance via forward contracts and hedging the price of fuels and emission certificates needed for this output. In this context, RWE Supply & Trading plays a central role. The company is the RWE Group’s interface to the world’s wholesale markets for energy and energy commodities, while serving as an internal transaction partner for hedging commodity risks. The trading activities are not exclusively oriented towards limiting risks. RWE Supply & Trading undertakes proprietary trading in adherence with limits, in order to make use of changes in prices on energy markets.

    The RWE Group’s integrated trading and risk management system for energy trading is firmly aligned with industry best practice. The commodity price risks in our generation and supply companies are constantly monitored and reported to the responsible bodies, including the Risk Committee of RWE AG. Furthermore, the Executive Board of RWE AG is kept informed of our consolidated risk positions in the field of commodities by way of quarterly reports. The upper risk limits in the energy trading business are set and constantly monitored by the Executive Board of RWE AG. Among other things, we calculate the Value at Risk (VaR) to quantify price risks. The central risk controlling parameter is the Global VaR, which limits trading activities of RWE Supply & Trading and may not exceed € 40 million. The VaR figures within the RWE Group are based on a confidence interval of 95 % and a holding period of one day. This means that, with a probability of 95 %, the maximum daily loss does not exceed the Global VaR. In the first nine months of 2009, RWE Supply & Trading’s Global VaR averaged € 15 million, and the daily maximum was € 21 million. However, our risk analysis is not only based on the amount of VaR. We also factor in extreme scenarios (“stress tests”), determine the influence they can have on liquidity and earnings, and take suitable measures if necessary.

  • Financial risks: Fluctuations in foreign exchange rates, interest rates and share prices can also have a significant effect on our earnings. Due to our international activities, currency risk management is very important. Group companies are obliged to hedge all currency risks via RWE AG. The parent company determines the net financial position for each currency and hedges it with external market partners if necessary. In the period under review, the average VaR for RWE AG’s foreign currency position was less than € 1 million.

    Interest rate management is also ascribed significant importance. Our interest rate risks primarily stem from our interest-bearing investments and financial debt. Negative changes in value caused by unexpected interest rate movements are hedged with non-derivative and derivative financial instruments. In the period under review, the average VaR for the interest rate risk associated with our financial debt and related hedges was € 173 million. The average VaR for interest-bearing investments, including hedges, was € 25 million, and for share investments it was € 23 million.

    Risks and opportunities from changes in the value of securities are controlled by a professional fund management system. The Group’s financial transactions are recorded using centralised risk management software and monitored by RWE AG. This enables the balancing of risks across individual companies. Range of action, responsibilities and controls are set out in internal guidelines to which our Group companies are obliged to adhere.

  • Creditworthiness of business partners: Our business relations with financial institutions, trading partners, customers and suppliers expose us to credit risks. Our risk management system is designed to keep our exposure to these risks manageable. In this context, we take into account the fact that the current financial crisis might lead to an increase in our counterparty default risk. We manage credit risks by setting limits and by adjusting them on a timely basis, especially in the event of changes in creditworthiness. If necessary, we request cash collateral or bank guarantees. We also take out credit insurance policies insofar as economically feasible. In our financial and energy trading activities, we conclude credit transactions largely with banks and trading partners of good creditworthiness. We determine their credit standing using an internal assessment method, which has been supplemented with an early warning indicator in light of the financial market crisis. As a rule, trading transactions are concluded on the basis of framework agreements, e.g., those published by the European Federation of Energy Traders (EFET). We measure credit risks in our energy trading and financial activities on a daily basis.

  • Liquidity risk: Liquidity risks arise if liquidity reserves are no longer sufficient to meet financial obligations in a timely manner. At RWE, such obligations result above all from the refinancing of financial liabilities. Furthermore, we must put up cash collateral if contracts valued at current market prices result in a loss. Despite the current financial market crisis, we classify our liquidity risk as low. The basis for this is our solid financing. We have strong cash flows from operating activities, substantial cash and cash equivalents, unused credit lines, and further financial flexibility through our Commercial Paper Programme and our Debt Issuance Programme (see the 2008 annual report). Our careful planning ensures that we are liquid at all times.

  • Regulation: The RWE Group’s exposure to the constant change in the political, legal and social environment in which it does business can be expected to have a substantial impact on earnings. Lignite and hard coal power plants account for a significant portion of our electricity generation portfolio. This represents a substantial risk due to the EU-wide CO2 emission trading system. Risks can arise from increases in the cost of procuring CO2 certificates. Generators in Germany and the UK will hardly be allocated any free certificates in the third emission trading period (2013 to 2020). We intend to continue reducing our emissions significantly and to make our power generation portfolio more flexible primarily through our new build programme. Furthermore, we limit CO2 risks through the Kyoto “Clean Development Mechanism” and “Joint Implementation”climate-protection projects in developing and newly industrialising countries.

    Our German electricity and gas grid companies are exposed to earnings risks largely in connection with the incentive-based regulation in effect since January 2009. Some details which are of financial importance to RWE, especially regarding the consideration of costs resulting from energy losses, still remain to be clarified. We partially offset the effects of regulation on our earnings by taking measures to cut costs and enhance efficiency in the grid business. Our grid and supply activities are exposed to regulatory risks outside Germany as well.

    Risks can also arise from the competition authorities tighter control of anti-competitive pricing practices from the end of 2007 onwards. Therefore, our pricing in the supply business might be subject to review by the authorities.

  • Legal procedures: Individual RWE Group companies are involved in litigation and arbitration proceedings due to their operations or acquisitions of companies, and out-of-court claims have been filed against some of them. However, we do not expect any major negative repercussions for the RWE Group’s economic or financial position. Furthermore, Group companies are directly involved in various procedures with public authorities or are at least affected by their results.

    Raw materials production and power generation activities might be curtailed by risks arising from approval processes for our opencast mines and nuclear power plants. Furthermore, there is a risk of financial loss when capital is spent on power plant new builds before all of the approvals for construction and operation have been received from the public authorities. We take precautionary measures against this by preparing our applications for approval with great care and ensuring that approval processes are handled competently. In light of our extensive growth programme and numerous investments in plant replacements, the number of our ongoing approval processes is especially high at present.

    In the German end-customer business, we are affected by legal procedures concerning the effectiveness of pricing mechanisms. This may result in burdens for us.

    The German Federal Cartel Office has been conducting investigations throughout the electricity and gas sectors since spring 2009 and in the district heating industry since September 2009. Risks may arise from these investigations.

    Conciliation proceedings in connection with the legal restructuring of companies are currently pending. They were initiated by outside shareholders in order to examine the appropriateness of the conversion ratios and the amount of cash paid in compensation. In our opinion, associated risks are low, as the conversion ratios and cash compensation were calculated by independent experts. If a different, legally enforceable, decision is reached, the compensation will be carried out by making an additional cash payment to the affected shareholders, including those who are not directly involved in the conciliation proceedings.