Allen Lima (AL): Portugal is going through an economic and financial crisis, as is Spain, which is an important market for our businesses. This creates a number of risks. For example, because of our high growth rate debt has grown quite quickly and it is not a good moment to go to the market to refinance. The [credit] rating of Portugal is very low, and as nice as we may be, rating agencies will not give us a rating that is more than one notch above that of the Portuguese Republic. This creates several difficulties. Some of them have been overcome with the arrival of new Chinese shareholders, but finding funding and obtaining good conditions to refinance the debt remains a problem.

EDP has posted healthy profits despite the crisis and therefore people think the company needs to help to solve the crisis that the country faces today. The European parliamentary and financial troika that has been in Portugal to discuss financial aid believes there are some areas to which EDP should contribute. In Spain, there is no troika, but the government wants to reduce electricity prices. So in practice we face the risk of contracts being changed, even though they were freely agreed between parties in the past. This is the most important problem we face currently.

José Luis Amorim (JA): We are also very much exposed to Iberian markets. Mainly Portugal, but we have also been growing in Spain. So our main concern relates to the macroeconomic environment. We are feeling the effects of austerity measures in the two countries and there is another factor that worries us a lot in the retail market—that of the informal [black market] economy. As tax pressures rise we are beginning to see a rise in informality.

On the issue of capital there is a problem of availability, price, maturities, just about everything in fact. We are actually going through a credit crunch in Portugal. Then there is the problem of unemployment rates, which in Portugal are reaching levels that are extremely worrying. It has affected the disposable income of families and, of course, if families do not have income to spend, businesses suffer.

Last week a hypermarket closed its doors, the first time ever in Portugal. We have a high level of dependence, especially in non-food retail products, on international sourcing and have become more worried about this as we’ve seen that a problem in a single country can have effects all over the world. Security is starting to become an issue too. We have seen some episodes of breaches of physical security. Fortunately not a lot of them as yet but, as unemployment rises, this is a risk that is set to rise.

Mariana Lopes (ML): We face similar risks that other Portuguese companies are facing right now. First of all, the brand Portugal is weighing heavily on companies. Many companies are trying to overcome the crisis by increasing their international operations, either via exports or by setting up production activities abroad. But many companies, especially small and medium operations, have, for a long time, focused on building relationships with our local banking system.

They have not paid much attention to foreign banks, and as a result, right now, those companies are suffering from the lack of liquidity in Portugal. In addition to that, private consumption in Portugal has seen the biggest fall in the past 30 years. For a company like Unicer this is especially important as our business relies on consumers.

Another worry for us is the increase of commodity prices such as cereals (malt/barley) and fuel which are very important variables for our production process. As a result we have to follow them very closely. As a treasurer and insurance manager, I have been asked by the board to focus on hard cash and to develop initiatives that reduce investment in working capital.

RA: How will you cope with a long-term recession? What could and should a risk manager do to help their company cope with such a challenge?

ML: We do not have any production plants outside of Portugal but almost 40% of our sales already come from abroad. Europe is an increasingly important market for us. We have not seen any drop in consumption in the important market for us of Angola. We are always searching for new markets for our products, right now particularly in Brazil and the US. So we are trying to fight the drop in consumption in Portugal with the internationalisation of our activities. In the case of beer, for instance, the per capita consumption in Portugal is currently at its lowest for the past 40 years which affects its price. Even though we are in a country where two companies dominate the beer market.

Retailers are also an important player in setting price. Purchase power has gone down and consumers are going out to restaurants less often, so consumption takes place mostly at home today. Consumers are increasingly buying their beer from large retailers and, as a result, there is more downward pressure on pricing.

JA: From this point of view retailers are suffering too. Even though there is some degree of substitution of external consumption with home consumption, sales volumes are under strong pressure and promotion activity is very strong

RA: What are the main challenges presented by rapid expansion to new markets? Are you on top of your supply chain risks?

RR: We’ve been making efforts to internationalise our activities for many years and some 60% of the market value of our company is today attributed to operations outside of Portugal. We are especially focused on Angola and Brazil. Galp operates in a very mature market—the refining and distribution of oil—where margins are extremely tight and we are going through a very difficult moment as oil prices are up and margins for refiners are low. One of Europe’s largest investors in the sector has had to shut down three of its five refineries and the two others will also have to close their doors.

In previous years we have increased the weight of exploration and production in our activities and that is where the value of the company lies today. We have operations in 16 countries and the investments we are making today are for the long term. In Brazil, for example, we are working on projects that will draw oil by 2020. The result is that the group now faces a wider variety of risks and we have had to organise our insurance programmes and our risk management structures accordingly.

AL: The consumption of electricity has also gone down in Portugal. If EDP has been able to report healthy results, and even grow, it is because of our international activities. Some 60% of our EBIDTA already comes from abroad. The strategy of EDP is to grow in markets with better potential for growth, especially in emerging markets like Latin American and even far eastern countries. Supply chain risks are a concern for us in this context. We have invested much money in renewable energies, in wind energy, and, in Brazil, hydroelectric power plants.

But the growth of wind energies creates complex supply chain challenges. It is necessary to find places where it is attractive from an economic point of view to produce electricity. However, in some instances, assessments of environmental impact will block such locations for energy production. Acquiring the required licences can be difficult and in the meantime we have to purchase generators so that they will be available in time. This forces us to have a portfolio of possible locations, which creates costs. This is especially problematical in the US, where nobody moves without being paid up front. Such a situation requires detailed management of the entire supply chain. Additionally, once licences have been granted and works can begin we hire contractors to build the plants. Managing this process is complex too. Some wind energy plants are set up with project finance and in such cases banks are terribly demanding. Any delays can mean a huge loss of money.

So in addition to construction insurance and the other coverages that are usually taken for such projects we have to purchase protection for losses of revenue in the case of delays. But there are several ways to increase the safety of a project. One of them is to apply fines to contractors if they do not meet deadlines.

ML: There is indeed a trend to try to manage this kind of risk via contracts. In our case the operational and the legal departments have been working together to transfer such risks to contracts, even though we carry on trying to purchase insurance coverage for whatever cannot be transferred. Take the issue of business interruption because of supplier failure. We have strived to identify our critical suppliers and to include a coverage for them in our own insurance policies. We have also increasingly tried to support our critical suppliers ourselves. For instance, by finding out those that are facing difficulties and looking at alternative ways to manage their payments.

JA: We had already identified supply chain as a major risk and we have acted accordingly, especially in international business. Dependence is certainly higher at the international level. In products like textiles and electronics the number of available suppliers has shrunk. To solve this problem we have tried to diversify so that we are not too dependent on a single provider. In any case, we continue to transfer some risks to the insurance market, such as those related to the transportation of merchandise.

RR: Another important factor is the delicate situation created by the arrival of products from China, India and other low cost markets in Europe. European companies have to pay plenty of taxes and meet requirements demanded by European regulations, while rivals from other countries do not have to incur such costs.

JA: For us the notion of a European product is not even suggested any more. To sell textile products at relatively low prices we have to purchase articles from the far east and that has taken place for many years. In Portugal and Europe we cannot find competitive products any more.

But what we see right now is a double development in the market. On the one hand, there is a broadening of the universe of providers beyond China and India, which in most cases provides more competitively priced products but with higher quality control risks.

On the other hand, for some specific products, it is worth having a provider located closer to home in order to mitigate supply chain risk. To buy anything from Asia you need to buy large volumes, otherwise it is not economically viable. Five or ten years ago Chinese producers had costs so low that they were able to ship even small cargoes of products to Portugal in case of an emergency. That is not the case any more. So, in some circumstances companies are looking for providers in countries that are closer to home. In terms of supply chain, using alternative providers from different countries can help to mitigate the risk.

We have not yet mentioned another risk that we have been seeing of late, which is the risk of protectionism. Every emerging country today is starting to have worries opposite to their worries two decades ago. Back then Brazil and China demanded reciprocity from Europe, so that the global market could evolve. Today we see them creating mechanisms to protect their own industry, and this will have an impact on world trade.

ML: It is possible to set up partnerships with local producers in foreign markets, but in terms of exports this is a short-term solution. The long-term solution is to delocalise production and take it to those markets. Another relevant question concerning Europe is that while we do not have a truly single Europe, we won’t be able to deal with the Brazilians, the Americans or the Chinese. We have to act together and we cannot have a two-speed Europe where each country looks after its own interests.

RA: What are the scariest insurable risks currently? Are you confident that you have identified, measured and adequately managed your cyber risk?

ML: Credit risk is surely at the top of our list right now. Even though it is an insurable risk, in some situations this is not always a reality. It is a market where for sales to some countries there is not insurance coverage, the price for bank guarantees is too high and stand by letters of credit are difficult to obtain.

We at Unicer try to transfer this risk to the insurance market, but at the same time we work within a well-defined internal credit politic.

In the case of foreign markets, our policy is that of zero risk. To concede credit we need to see some kind of guarantee, otherwise we only work with payments on the spot. In the domestic market we not only try to transfer the risk to the insurance market, but also set up long standing partnerships with our clients. This policy has borne fruit as only 0.5% of our sales are accounted for as bad debts/credit. It is a very small ratio.

Travel risks have also become more of a factor, especially when it comes to expatriated staff. The cost of convincing employees to live abroad is particularly high when you want them to move outside of Europe. The highest cost involves moving staff to Africa. There is the question of social benefits, and others beside.

RR: Back to credit risk, in the past five years a number of insurance players have exited the market in the Iberian Peninsula. Mapfre, for one, has gone. In Portugal Cosec has remained, and in Spain there is Crédito y Caución, but basically all other players are not working with credit insurance any more. It seems that some companies are returning to the market, including Mapfre and Cesce, and this is good news. But with less competition, credit insurance costs have become very high.

AL: Of course we have a natural risk management policy when someone stops paying the bill, which is to cut the provision of electricity. But this is sometimes risky too. For instance, in the case of public entities, we have now created a scoring system for clients and, depending on how they score, we can provide some additional leeway. The fact is that we would like to transfer this risk, but the insurance market is not taking it.

RA: How could and should the insurance market—insurers and brokers—improve the service offered to you?

JA: Two risks for which I believe we should be able to find better coverage in the insurance market are business continuity and cyber-risks. We have e-commerce activity and the fact is that the risks that affect e-commerce are not much different from those that we face in our stores, but they manifest themselves in a completely different way. We would like insurance companies to offer more capacity to respond to such risks.

RA: Are you happy with the way that the insurance market has helped your companies with your global programmes?

AL: We have a policy to try and make centralised purchases, so we can achieve better prices thanks to higher volumes. So in Europe we have a programme that is very well integrated, with some exceptions where there is some kind of protection transferred to local insurers, for instance in workplace accidents or motor accidents. But property damage, earthquake and civil responsibility coverages are purchased in a single tender where we try to bring all countries together. In the case of Brazil, however, this is just not possible to do. The market remains closed there, so our Brazilian unit purchases insurance locally. Concerning the United States, it has been possible to overcome some of the difficulties, and some areas have been integrated to our global programmes.

RR: We have Brazil integrated into our global programme by using our captive, so our global programme covers our activities in all the countries where we operate.

RA: What impact will Solvency II have upon your captive strategy? Which domicile will emerge the winner in your opinion?

RR: I believe we had an initial shock, but after we all took the QIS5 tests, we saw that our captives were not too far away from forthcoming capital requirements. But Solvency II will evidently cause some problems. Once again, it is a very heavy European legislation that hit European companies. It may force some companies, especially large groups which have captives in Europe, to take them elsewhere.

JA: The problem will be where to. In the United States they are already studying adaptation to Solvency II requirements, Bermuda too. And some of the remaining jurisdictions are not for the faint-hearted. But the general conclusion seems to be that Solvency II will not change the relationship of costs and benefits, even though costs are likely to go up for captives.

This year’s Risk Frontiers project is once again sponsored by XL and the Lisbon meeting was attended by Luis San Juan, Client and Distribution Manager for the insurance group in Iberia and Latin America. This year we are also delighted to welcome Willis as a sponsor to the project and Crispin Stilwell, New Business Director and member of the board of Willis Portugal, also joined the meeting. Thanks to XL and Willis for their sponsorship of the project.

The Participants

Commercial Risk Europe would like to formally thank the following
individuals who took time to join our Portugal roundtable and
contribute towards our annual Risk Frontiers survey project:

• Allen Lima, CRO at EDP, the electricity provider
• Rufino Ribeiro, Risk Manager at Galpenergia, the oil and gas company
• Mariana Lopes, Head of Risk and Financial Management at brewery group Unicer
• José Luis Amorim, Risk Manager at Sonae Group, the retail and telecommunications group

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