The most significant risks and uncertainties and risk management responses related to them
The following describes the risks and uncertainties assessed as significant, and related risk management responses:
Trends in purchasing power and trading sector demand especially in Finland
The uncertain outlook for the Finnish economy, increases in taxes and public payments resulting from the indebtedness of the public sector, as well as high unemployment weaken purchasing power and consumer confidence and can cause a long-term decline in the level of demand. This would have negative repercussions especially on Kesko's building and technical trade and car trade in Finland. Despite the weakening of purchasing power, the Group’s profitability has remained good and financial position strong. Additional savings, already decided earlier, are implemented and new savings targets continue to be examined in all Group functions. The objective is a more focused Kesko in terms of company structure, with a uniform corporate culture a more simple Group structure, as well as more efficient and more uniform operating practices.
Decline in price level and intensification of price competition in Finnish grocery trade
The level of food prices in Finland declined further in 2016. As consumers' purchasing power has fallen in recent years, competition has become more intense and stores have lowered their prices in order to increase market shares. The decline in price levels and the intensified price competition can weaken the profitability of Kesko's grocery trade and retailers. Kesko develops stores’ selections, services, store concepts and the store network in a customer-oriented manner in order to provide customers’ with the trading sector’s best customer experience in stores and digital channels.
Neighbourhood market strategy of grocery trade
In 2016, Kesko acquired Suomen Lähikauppa as part of the neighbourhood market strategy implementation. The integration of Suomen Lähikauppa's business operations into those of Kesko, the conversion of Siwas and Valintatalos into K-Markets, as well as the replacement of the stores' business model by the retailer business model are significant change projects and the achievement of their objectives involves operational and financial risks. The integration process has progressed as planned and the sales performances of the converted stores have been good. The K-Market concept renewal and the development of selection and retail price controls ensure the chain’s competitiveness also in the future.
Business arrangements in building and technical trade
The integration of the Onninen acquisition into Kesko's business operations and the combination of Kesko Senukai's business in the Baltics are demanding and long-term projects. The integration of the business operations and the creation of uniform operating models involve risks that can make the achievement of the operational and financial targets set for the arrangement more difficult. The organisational structure has been modified in line with the new operating model and strategy. The realisation of the targets set for the business arrangements is ensured with sufficient resourcing, a uniform management and reporting model and the prioritisation of development projects.
Strong change in the trading sector caused by digitalisation
In the midst of the retail transition, the achievement of business objectives requires an active approach and strong expertise in the development of digital services and online stores that are attractive to customers, and the use of a multi-channel approach with supporting customer communications. There is a risk that some of the traditional brick and mortar stores become unprofitable and that the progress of e-commerce and digital service development projects is outpaced by competitors. Competition can also be intensified by companies entering the value chain of trade by introducing new business models. In the food trade, the challenges in the development of e-commerce include the cost-efficiency of logistic operating models and the suitability of the existing store sites for e-commerce. According to its strategy, Kesko’s objective is to offer the best digital services in the trading sector. They include digital interaction with customers in all channels, targeted and personalised digital marketing, innovative e-commerce solutions, as well as customer-oriented mobile services. Dozens of digital business specialists have been recruited in order to achieve the objectives.
Employee competencies and working capacity
The implementation of strategies and the achievement of objectives require competent and motivated personnel. There is a risk that the trading sector does not attract the most competent people. The acquisitions in progress, as well as other significant business and development projects, coupled with an increased need for special competencies increase the key-person risk and the dependency on individual expertise. In connection with the strategy work, the competencies required in strategy implementation are identified and personnel plans are drawn up. Personnel surveys play a central part in the development of human resources management. The personnel are provided with a variety of training opportunities and career paths. The wellbeing at work and working capacity of personnel are promoted with Kesko’s wellbeing at work development programme. Kesko’s employer profile is developed with systematic cooperation with stakeholders, as well as internal and external communications.
Suppliers and distribution channels
In divisions strongly dependent on individual principals and suppliers, such as the car trade, ownership arrangements and changes in the strategy of a principal or a supplier, as well as changes in product selections, product pricing and distribution channel solutions can mean weakened competitiveness, a decrease in sales or loss of business. Good market shares, increasing sales and active development of operations create a good basis for a long-term cooperation.
Product safety and responsible purchasing channel
A failure in product safety control or in the quality assurance of the supply chain can result in financial losses, the loss of customer confidence and reputation or, in the worst case, a health hazard to customers. The risk management responses include the Product Research Unit’s quality control of the grocery trade products, and product safety management by the companies manufacturing own brand products. The trading sector’s self-control ensures compliance with foodstuffs regulations. Defective foods can be easily withdrawn from sale using the recall procedure.
Store sites and properties
With a view to business growth and profitability, good store sites are a key competitive factor. The acquisition of store sites can be delayed by town planning and permit procedures and the availability and pricing of sites. Considerable amounts of capital or lease liabilities are tied up in properties for years. When the market situation changes, the business is rearranged, the significance of e-commerce grows, or a chain concept proves inefficient, there is a risk that a store site or a property becomes unprofitable and operations are discontinued while long-term liabilities remain. The management responses to these risks include long-term store network planning, careful preparatory work preceding the decision to make a capital expenditure, long-term cooperation with lessors, as well as management solutions and the sale and leaseback operating model. In cases where Kesko is the property developer, the aim is that the space solutions and use of the store site can be changed flexibly as necessary. The needs of multi-channel business operations are taken into account when new premises are designed and existing premises are modernised. Flexibility and continuity are ensured with extension options included in lease agreements.
Business interruptions and information system failures
The trading sector is characterised by increasingly complicated and long supply chains and a higher dependency on information systems, data communications and external service providers. Failures can be caused by hardware failures, software errors or external cyber threats. Extended malfunctions in information systems, payment transfers, or in other parts of the supply chain, can cause significant losses in sales and weaken customer satisfaction. The failure-free operation of critical functions, operation during failure and sufficiently fast recovery from a serious failure are ensured with continuity planning.
Responsible operating practices and reputation management
Various aspects of corporate responsibility, such as ensuring responsibility in the purchasing chain of products, fair and equal treatment of employees and environmental protection, are increasingly important to customers. Any failures of corporate responsibility would result in negative publicity for Kesko and can cause operational and financial damages. Challenges in Kesko’s responsibility work include communicating about the responsibility principles to suppliers, retailers and customers, as well as ensuring responsibility in the product purchasing chain. The revised K Code of Conduct operating guidelines have been introduced to the whole personnel and to business partners. Kesko’s responsible purchasing is guided by ethical purchasing principles, the compliance with which is ensured by continuous training of the purchasing personnel. Responsibility in purchasing is also maintained by ensuring the existence and timeliness of suppliers’ product safety systems and self-control plans. The SpeakUp reporting channel, intended for reporting suspected criminal offences or misconduct, has been introduced in Kesko’s all operating countries.
Compliance with laws and agreements
Compliance with laws and agreements is an important part of Kesko's corporate responsibility. Non-compliance can result in fines, claims for damages and other financial losses, and a loss of confidence and reputation. The Group ensures compliance with laws by implementing training programmes and conducting self-assessments. Contractual risks are managed by harmonising agreements and the agreement making processes and by electronic agreement archiving.
Reporting to the market
Kesko's objective is to produce and publish reliable and timely information. If any information published by Kesko proved to be incorrect, or communications failed to meet regulations in other respects, it can result in losing investor and other stakeholder confidence and in possible sanctions. Significant business arrangements, tight disclosure schedules and the dependency on information systems create challenges to the accuracy of financial information. The risk is reduced by careful process scheduling and instructions and by ensuring the right resources, explicit responsibilities and sufficient competencies.
Risks of damage
Accidents, natural phenomena and epidemics can cause significant damages to people, property or business. In addition, risks of damage can cause business interruptions that cannot be prevented. There is also the risk that insurance policies do not cover all unexpected accidents and damages, or covering them with insurance is not profitable. Financial consequences of damage are insured in accordance with the principles confirmed by Kesko’s Board of Directors. Kesko Group has international insurance programmes that cover, for example, property damages, business interruption losses and liability damages. The Group’s risk management has centralised control of the implementation of the Group’s insurance programmes.
Crime and malpractice
Crimes are increasingly committed through data networks and crime has become more international and professional. A failure, especially if it affects the security of payment transactions and personal information, can cause losses, claims for damages and reputational harm. The confidentiality of customer and personal data is ensured with up-to-date data security solutions and audits. Crime and malpractice are prevented with the help of technical equipment, providing information, training as well as more efficient instructions and controls.
Financial risks are described in note 32 to Kesko’s financial statements for 2016.