The risks described below stem from a consideration of the features of Ansaldo STS group’s market (demand and offer) and business, together with the key fi ndings of the updated risk assessment process.
Risk assessment aims at identifying and evaluating the main risks that could have an impact on achieving objectives, for those processes identifi ed as relevant, and the related mitigating actions, as well as defi ning additional actions to be taken to further reduce the risk or improve process performance.
Ansaldo STS’s risk assessment process is based on the Committee of Sponsoring Organisations of the Treadway Commission’s internationally-recognised Enterprise Risk Management framework (COSO report) and seeks to integrate risk assessment into the processes of planning, pursuing corporate and internal control targets in order to create value while properly managing risks and mitigation plans, in addition to exploiting any opportunities.
The key risks and uncertainties faced by Ansaldo STS S.p.A. and the group are outlined below following the classifi cation adopted by the group (strategic, operational, fi nancial and IT risks).
Risks may exist that have not yet been identifi ed or that are deemed immaterial but which could nonetheless impact group operations.
Reference should be made to the notes to the consolidated fi nancial sta tements for information on the management of fi nancial risks (market, liquidity and credit).
1.1.1 Changes in the macroeconomic and market context and streamlining programmes
Ansaldo STS group operates internationally and is exposed to risks arising from macroeconomic/ geopolitical changes and a reference market presenting the greatest opportunities in emerging nations and those with the highest growth rates.
Moreover, the market has seen greater volatility in the acquisition of contacts, due partly to the fact that projects tend to grow in size and scope and there is an increasingly consolidated trend towards the standardisation of products and technological solutions, especially in the signalling business unit.
This leads to tougher competition, with decreasing prices and market consolidation even though the market shows modest growth in the medium term.
The clauses in new contracts are more complex and generate greater risks which include the greater resort to project financing due to the contraction in funding available to customers.
This market situation could negatively impact Ansaldo STS group’s competitive edge and performance, e.g., difficulties in obtaining new contracts, contracting margins on new orders and exposure to less advantageous contractual terms.
Macroeconomic and geopolitical factors that could impact the group’s operations include the growth rate in the reference countries and public spending on infrastructure. The current macroeconomic and financial uncertainty, the slowdown in growth in China and South America, the drop in raw material prices, which reduces customers’ spending capacity in certain markets, political instability in some geographical areas of interest and plans to reduce public debt could generate delays or reductions in new orders, delays in payments and less favourable terms for new contracts, having a negative impact on Ansaldo STS group’s performance.
The group’s strategy may not be immediately updated and adjusted in response to these many variables and uncertainties in the macroeconomic and market context, negatively impacting its competitiveness and performance.
A key element of Ansaldo STS group’s strategy is to optimise its operating structure by standardising the solutions and products offered and greater efficiency/optimisation in the use of resources during project implementation. Streamlining projects commenced some time ago, including the most recent “Value to Actions - V2A” project launched in 2014 and continued in 2015, with a view to reducing both external and internal costs via the optimisation of operating processes.
The anticipated benefits have already been seen, especially in structural and operating costs. Progress is subject to ongoing and structured monitoring, including through a dedicated department, given the risk that plans to streamline the group’s operating structure may not be implemented as planned, their results are weaker than anticipated or take longer than expected or that the greater operating efficiency achieved is not maintained over time, thus negatively affecting the group’s profits.
1.1.2 Innovation: a competitive factor
The group’s business units feature a high level of technological innovation and this represents an important competitive factor.
Ansaldo STS group’s ability to anticipate technological changes and implement an efficient investment policy is therefore paramount. If it fails to accurately assess innovation requirements, the contents of innovation and development projects, their benefits and related priorities, the group runs the risk of delays in the availability of new products and technical solutions, instability of new products, additional development costs on projects and lost sales.
Processes to update the product portfolio and regularly assess products’ technical competitiveness are in place to mitigate these risks and ensure greater optimisation when making bids.
The features and degree of technological innovation of the group’s products and technical solutions generate a risk of obsolescence. There are specific processes in place to ensure its effective management.
1.2.1 Country risk
The group’s policy of penetrating new markets, particularly those with the highest rates of development, expose it to risks such as: political, social and economic instability, not accurately evaluating local legislation (as applies to companies, the sector and tax), the challenge of protecting intellectual property, exchange rate fluctuations, as well as the creditworthiness of counterparties, which can negatively impact the group’s financial position and results of operations. Country risk is assessed when the group decides which offers and bids to make. Any mitigating actions are also contemplated at the time the bids are prepared and contracts managed.
Reference should be made to the paragraph of this report covering the halt of the contracts in Libya due to the instability and unrest in that country and the delays and extra costs accumulated on the Turkish and Greek contracts.
1.2.2 Reliance on public customers and long-term contracts
Group operations are highly dependent on public customers and, particularly in the turnkey systems business, on complex long-term contracts of a significant amount.
Delays, amendments, revisions or cancellations of one or more significant contracts acquired could negatively impact the group’s operations and its financial position and results of operations.
Assessing long-term contracts using the percentage of completion method requires the estimates of costs to complete the activities, project risks (technical, legal, tax and commercial) and contract progress. These estimates are based on assumptions related to the impact of future events which, by their very nature and given the complexity of the projects underway, may not occur as envisaged, thus negatively impacting the project’s financial and economic performance. Indeed, there is often an element of uncertainty related to third-party performance of civil works for transportation infrastructure and the group cannot always cover the related impacts on programs with contractual clauses.
The following factors mitigate such risks:
- market diversification and monitoring of country and compliance risk;
- structured project review processes involving senior management;
- the regular review and adjustment of contract and programme estimates;
- the adoption of risk management processes both at the time the bid is made and throughout project implementation, as well as lifecycle management processes involving the regular comparison of physical and accounting progress.
1.2.3 Budgeting and risk management project planning
Ineffective project planning and control processes and weak project technical management could mean the project team cannot implement the project within the set budget and timeframes, especially complex projects.
Likewise, risk management may not be effective if based on incomplete or inaccurate information, or if it is not adequately defined and monitored. These risks could cause delays in identifying issues during project roll-out and related remedial actions as well as inaccurate reporting and planning, with a consequent negative impact on the group’s financial position and results of operations.
To mitigate this risk, there are formalised and monitored processes to check physical and accounting progress and risk management, clear allocation of responsibilities within the project team, managerial review of project performance, review of the estimates at the time the bid is made and an independent review carried out by the risk management department.
1.2.4 Third parties (subcontractors, subsuppliers and partners)
Ansaldo STS group makes considerable use of subcontractors to supply subsystems or assembly and installation services and of subsuppliers for goods or services in its business. The group’s ability to fulfil its obligations to customers therefore relies on both subcontractors and subsuppliers properly fulfilling their contractual obligations.
A breach thereby could in turn cause a breach by Ansaldo STS group, negatively impacting its reputation and, unless it is possible to obtain compensation from the subcontractors and subsuppliers, the group’s financial position and results of operations.
Moreover, particularly in the turnkey projects business, Ansaldo STS group also carries out contracts in conjunction with other operators.
In these cases, each operator generally has joint and several responsibility vis-à-vis the customer for the completion of the entire contract. In the event of a breach or damage caused to the customer by an operator, the group could be called on to replace the operator causing the breach or damage, and to compensate the damage caused to the customer in full, without prejudice to the group’s right of recourse vis-àvis the defaulting operator. If the right of recourse against the operator responsible for the breach or damage is ineffective or protracted, this could negatively impact the Ansaldo STS group’s operations as well as its financial position and results of operations.
The preliminary assessment and consequent qualification of partners, suppliers, subcontractors and subsuppliers, particularly in new markets, may be inadequate, with negative impacts on the competitive nature of the technical solutions offered, project performance and on the effectiveness of partnership governance (for instance, differences of opinion between the partners, misalignment of risks and costs/benefits for the individual partners).
To mitigate these risks, the group has processes in place to select and evaluate suppliers, subcontractors and subsuppliers, it works with known and reliable partners, it defines, agrees and manages appropriate contractual and joint venture clauses, it has risk management processes and it requests specific guarantees, where applicable.
1.2.5 Efficient technical operations and relevant technical references
Development and engineering activities carried out without a clear understanding and identification of the requirements, specifications or effective configuration management could negatively affect the project budget, compliance with deadlines, performance and customer satisfaction.
To mitigate this risk, the group has requirement and configuration management processes in place to ensure quality, compliance with deadlines and efficiency in projects and development management.
It has rolled out special projects to monitor the proper implementation of these processes during projects. Furthermore, if Ansaldo STS group does not have adequate market and operating references for products, this could lead to lost sales and non-compliant project implementation, negatively impacting the group’s competitiveness and its financial position and results of operations. Such risk is carefully assessed when the bid is being prepared. It is managed through processes designed to ensure adequate interaction between the engineering unit, which communicates the customers’ requirements, the portfolio unit, which assesses the market’s technical requirements and possible technical solutions, and the development unit, as well as via the development and monitoring of the product development roadmap.
1.2.6 Liability to customers or third parties for product defects or delivery delays
Technological complexity and tight delivery times for group products and systems could leave it liable for delays in or failure to supply contractually-agreed products or services, for their non-compliance with customer requirements (for instance, due to design or construction faults) and for breaches of and/or delays in roll-out, the provision of post-sales services and product maintenance and servicing. Moreover, many products and systems supplied by the group are subject to certifications and approval, including by third-party bodies.
Such liability could be directly attributable to Ansaldo STS group or to third-party operators such as subsuppliers or subcontractors. These risks could negatively impact the group’s operations, its financial position and results of operations and its reputation, and could also result in the group incurring costs to repair faulty products or their withdrawal from the market in extreme cases. Even if adequate insurance is in place, the sum insured could be exceeded or the premiums could be raised following a claim, negatively impacting the group’s financial position and results of operations.
To mitigate these risks, the group agrees specific insurance coverage, carefully supervises its engineering, validation and returns monitoring processes and identifies mitigating actions and provides for contingencies in the bid in conjunction with the risk management process.
1.2.7 Legal disputes
The complexity of dealings with third parties (customers, subcontractors/ subsuppliers and partners), especially for international projects and the content of systems and products developed, as well as specific business risks expose the group to a significant risk of legal disputes. Legal disputes could also relate to the awarding of bids. The settlement of disputes could be complex and take a long time, leading to delays in completing projects and negative impacts on the group’s operations and its financial position and results of operations.
To mitigate this risk, there are risk management processes in place during both the bid and management stages, disputes are monitored closely, contractual clauses are examined carefully with the legal department, and a prudent approach is adopted in recognising specific items under contract costs and provisions for risks
1.2.8 Human resource management
Ansaldo STS group supplies products and systems featuring cutting-edge technology on a global scale and to do so, it requires human resources with specific expertise, which can be difficult to procure on the labour market. The success of the business development plans, especially in new markets, also depends on the group’s ability to attract, retain and develop the skills of its human resources, particularly in order to operate in a global group and market context and on complex projects.
To mitigate this risk, human resource management policies reflect the business needs. Ansaldo STS group also has an integrated human resource management and development system under which regular checks of expertise and performance are carried out and relevant training initiatives identified, as well as enabling the best possible allocation of resources. Processes and initiatives are also in place to identify the most talented resources, with regard to both managerial and technical profiles, and plot career paths for them. Reference should be made to the section on human resources for a description of the latter.
1.2.9 Health, safety and environmental compliance
Ansaldo STS group has to comply with health, safety and environmental legislation in the various countries in which it operates. Failure to comply with such legislation as a result of operating processes which are not adequately monitored or - especially in new markets in countries where standards are below-par or that are exposed to specific risks (e.g., high crime rates, terrorist attacks or epidemic risks) - due to an inadequate evaluation of such requirements and necessary measures, could expose the group to risks having significant impacts on its operations, its financial position and results of operations and its reputation.
To mitigate this risk, Ansaldo STS group adopts health, safety and environmental management systems ensuring rigorous compliance with legislation in accordance with best practices, subject to internal and external monitoring and integrated with the security processes monitored by an independent internal unit.
These management systems are certified (to OHSAS 18001 standard for workplace safety and ISO14001 for the environment) in the group’s key companies. Requirements in new markets are evaluated at the time the bid is prepared and the assistance of external consultants is also sought.
Policies and procedures have also been set to ensure a consistent approach throughout the group’s various companies while still allowing for specific local legislation.
1.3.1 Ability to finance a high level of current assets and obtain guarantees
To carry out contracts, Ansaldo STS group requires:
- adequate funding of current assets;
- bank and/or insurance guarantees issued to the customer in the various project stages (bid bond, advance payment bond, performance bond, retention money bond and warranty bond) and/or guarantees issued by the parent (parent company guarantees).
Current assets are usually funded by customer advances and progress payments.
Ansaldo STS group’s ability to obtain guarantees at good rates depends on the evaluation of its financial position and results of operations, which is usually based on various indices including an analysis of its financial position, analysis of the contract risk and experience and competitive positioning in the reference sector. Ansaldo STS group believes it complies with the relevant parameters. At 31 December 2015, it had guarantees of €3,791,236 thousand.
Difficulty in negotiating suitable financial terms for new contracts, payment delays and/or suspension and deterioration of existing terms of payments, or the inability or greater difficulty in obtaining guarantees at good rates, would negatively impact the group’s and the parent’s operations and financial position and results of operations.
To mitigate these risks, Ansaldo STS group has commercial and contract management policies focussed on financial aspects, centralised treasury management which optimises the cash flows of the various group companies; its financial position is solid and the contract parameters are assessed right from the time of the bid stage.
In the present economic and market context, due to new contracts which have less favourable financial terms, working capital is monitored closely and specific initiatives are in place to mitigate its impact.
1.4.1 IT system
IT systems are a vital part of Ansaldo STS group’s operating structure and their management must be in line with the group’s strategic objectives. IT solutions that do not match business needs, or upgrades thereof that do not meet users’ needs, or inefficient system or outsourcer management, could compromise the efficiency and effectiveness of group operations.
Moreover, the unavailability or interruption of IT services or network and data loss or damage (including sensitive data or intellectual property), also as a result of hacking, could compromise group operations.
To mitigate this risk, the IT policies took into account the organisational and process change initiatives. Moreover, Ansaldo STS group has a governance system based on best practices and follows structured and monitored processes for hardware and software management, including cyber-security aspects.