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About our businesses - Pennon Group

Pennon's Principal Risks and Uncertainties

Risk	Commentary and mitigation
EARNINGS GROWTH/SHAREHOLDER VALUE
It may not be possible to continue to sustain the same level of earnings and growth of the Group as in the past	This is dependent upon the correct strategies being pursued by strong and able management within the Group as well as on external factors.
There is a risk to shareholder value if the Group is not able to continue to grow its key businesses and produce sustainable earnings growth	The Group has maintained earnings and has successfully grown both South West Water and Viridor and intends to continue to create shareholder value through its strategic focus on water and waste water services and waste management.
TREASURY
The Company may be unable to raise sufficient funds to finance its activities	Pennon Group has robust treasury policies in place, as listed below:
Liquidity risk	Ensuring that the Group has cash and committed loan facilities equivalent to at least one year's forecast requirements at all times. Borrowing repayment commitments are expected to be met as required during the coming period.
Refinancing risk	Ensuring that no more than 20% of Group net debt is permitted to mature in any one financial year. At 31 March 2010 the Group had cash and deposits of £494 million, and undrawn committed bank facilities of £200 million, giving access to total cash resources of £694 million. Loan repayments falling due by 31 March 2011 amount to £216 million.
Covenant compliance risk	Pennon Group and South West Water have entered into covenants with lenders. Whilst terms vary, these typically provide for limits on gearing (primarily based on South West Water's Regulatory Capital Value and Viridor's EBITDA) and interest cover. Redemption penalties included in the facility documentation can be invoked if debt facilities are redeemed early. The redemption penalties vary in each facility. The financial covenants included in the Group's debt facilities are monitored on a regular basis. The financial covenants offered by the Group include a provision to re-test the covenants applying frozen UK GAAP accounting standards. This is to protect the Group from changes in accounting standards which may have a detrimental impact on the financial covenant testing methodology.
Counterparty risk	Surplus funds of the Group are usually placed in short-term fixed interest deposits or the overnight money markets. Counterparty risk arises from the investment of surplus funds and from the use of derivative instruments. The Board has agreed a policy for managing such risk, which is controlled through credit limits, counterparty approvals, and rigorous monitoring procedures. All deposits are with counterparties which have a credit rating approved by the Board (Aa2 Moody's/ AA Standard & Poor's).
Interest rate risk	The Group's exposure to interest rate movements is managed by the use of interest rate derivatives. The Board's policy is that in any one year at least 50% of net debt is fixed. Interest rate swaps are used to manage the mix of fixed and floating rates. The Group has fixed approximately 50% of South West Water's existing net debt up to 31 March 2015. At 31 March 2010 the Group had interest rate swaps to convert floating rate liabilities to fixed rate, and hedge financial liabilities, with a notional value of £775 million and a weighted average maturity of 3.0 years (2009 £760 million, with 2.4 years). The weighted average interest rate of the swaps for their nominal amount was 4.0% (2009 4.5%). The notional principal amounts of the interest rate swaps are used to determine settlement under those swaps and are not therefore an exposure for the Group. These instruments are analysed in more detail in note 23 to the financial statements. In addition South West Water has index-linked approximately 23% of its current net debt up to 2041-2057. South West Water's total index-linked debt of £353 million has an average real interest rate of 1.66%. The interest rate for index-linked debt is based upon an RPI measure which is also used in determining the tariff increase for South West Water customers.
TAXATION	A material tax risk for the Group is the possibility that the capital expenditure qualifying for capital allowances is mis-allocated or categorised incorrectly, resulting in under-claims or over-claims of tax reliefs. Professional tax consultants are employed with experience of analysing the types of specialist assets involved.
PENSIONS
The future costs of defined benefit schemes are subject to a number of risks	New employees are generally offered defined contribution arrangements.
The returns achieved on pension fund investments	Pension trustees keep investment policy under review and use professional investment advisers.
Movements in interest rates and inflation	The pension trustees review the investment strategy to improve the match of investments and liabilities. Employee and employer contributions are also kept under review and have been increased. Further employer contributions of £16 million were made in the year.
Pensioner longevity	Independent actuaries have identified scheme-specific mortality experience which is reflected in liabilities.