Financial risk and treasury policies

The Group treasury management team maintains liquidity, manages relations with the Group’s bankers, identifies and manages foreign exchange risk and provides a treasury service to the Group’s businesses. Treasury dealings such as investments, borrowings and foreign exchange are conducted only to support underlying business transactions.

The Group has clearly defined policies for the management of foreign exchange and interest rate risk. The Group treasury management team is not a profit centre and, therefore, does not undertake speculative foreign exchange dealings for which there is no underlying exposure. Exposures resulting from sales and purchases in foreign currency are matched where possible and the net exposure may be hedged by the use of forward exchange contracts.

(i) CREDIT RISK

Credit risk is the risk of financial loss to the Group if a customer or counterparty to a financial instrument fails to meet its contractual obligations, and arises principally from the Group’s receivables from customers and monies on deposit with financial institutions.

 

The US Government through the Department of Defense and the UK Government through the Ministry of Defence are major customers of the Group. Credit evaluations are carried out on all non Government customers requiring credit above a certain threshold, with varying approval levels set above this depending on the value of the sale. At the balance sheet date there were no significant concentrations of credit risk, except in respect of the US and UK Governments noted above.

 

Where possible, goods are sold subject to retention of title clauses, so that in the event of non-payment the Group may have a secured claim.

 

The Group establishes an allowance for impairment in respect of receivables where recoverability is considered doubtful.

Exposure to credit risk

The carrying amount of financial assets represents the maximum credit exposure. The maximum exposure to credit risk at the reporting date was:

 

Carrying amount	2009	2008
	£'000	£'000
Trade receivables	11,181	8,800
Other receivables	3,116	2,309
Cash and cash equivalents	1,050	796
Forward exchange contracts used for hedging:
- Assets	31	-
- Liabilities	(56)	(16)
Total	15,322	11,889
The maximum exposure to credit risk for trade receivables at the reporting date by currency was:
Carrying amount	2009	2008
	£'000	£'000
Sterling	2,261	1,684
US dollar	8,384	7,074
Euro	536	42
Other	-	-
Total	11,181	8,800

 

Provisions against trade receivables

The ageing of trade receivables and associated provision for impairment at the reporting date was:

	Gross	Provision	Gross	Provision
	2009	2009	2008	2008
	£'000	£'000	£'000	£'000
Not past due	*8,730	(18)	7,607	-
Past due 0-30 days	2,107	(77)	424	-
Past due 31-60 days	407	(27)	644	(72)
Past due 61-90 days	71	(34)	223	(26)
Past due more than 91 days	106	(84)	83	(83)
Total	*11,421	(240)	8,981	(181)

 

*includes £1,663,000 (2008: £414,000) presented as assets held for sale.

 

 

ii) LIQUIDITY RISK

Liquidity risk is the risk that the Group will not be able to meet its financial obligations as they fall due. The Group’s approach to managing liquidity is to ensure, as far as possible, that it will always have sufficient liquidity to meet its liabilities when due, under both normal and stressed conditions, without incurring unacceptable losses or risking damage to the Group’s reputation.

 

The Group uses weekly cash flow forecasts to monitor cash requirements and to optimise its borrowing position. Typically the Group ensures that is has sufficient borrowing facility to meet foreseeable operational expenses and at the year end had facilities of £19.2m.

 

The following are the contractual maturities of financial liabilities, including interest payments and excluding the impact of netting agreements:

 

Analysis of contractual cash flow maturities
	Carrying	Contractual	Less than			More than
	amount	cash flows	12 months	1-2 Years	2-5 Years	5 Years
	£'000	£'000	£'000	£'000	£'000	£'000
30 September 2009
Secured bank loans	12,557	12,557	12,557	-	-	-
Overdraft	2,140	2,140	2,140	-	-	-
Trade and other payables	17,931	17,931	17,931	-	-	-
Forward exchange contracts used for hedging
- Outflow	56	6,288	6,288	-	-	-
- Inflow	(31)	(711)	(711)	-	-	-
Total	32,653	38,205	38,205	-	-	-

 

Analysis of contractual cash flow maturities
	Carrying	Contractual	Less than			More than
	amount	cash flows	12 months	1-2 Years	2-5 Years	5 Years
	£'000	£'000	£'000	£'000	£'000	£'000
30 September 2008
Secured bank loans	15,526	15,526	15,526	-	-	-
Overdraft	382	382	382	-	-	-
Trade and other payables	16,465	16,465	16,465	-	-	-
Forward exchange contracts used for hedging
- Outflow	16	2,005	2,005	-	-	-
- Inflow	-	-	-	-	-	-
Total	32,389	34,378	34,378	-	-	-

(iii) MARKET RISKS

Market risk is the risk that changes in market prices, such as currency rates and interest rates, will affect the Group’s results. The objective of market risk management is to manage and control market risk within suitable parameters.

 

(a) Currency risk

The Group is exposed to foreign currency risk on sales and purchases that are denominated in a currency other than sterling. The currencies giving rise to this risk primarily are the US dollar and related currencies and the Euro. The Group hedges material forecast US dollar or Euro foreign currency transactional exposures using forward exchange contracts. In respect of other monetary assets and liabilities held in currencies other than sterling, the Group ensures that the net exposure is kept to an acceptable level, by buying or selling foreign currencies at spot rates where necessary to address short-term imbalances.

 

The Group classifies its forward exchange contracts hedging forecasted transactions as cash flow hedges and states them at fair value through the income statement. Fair value is assessed by reference to year end spot exchange rates, adjusted for forward points associated with contracts of similar duration. The fair value of forward exchange contracts used as hedges at 30 September 2009 was a £25,000 liability (2008: a £16,000 liability) comprising an asset of £31,000 (2008: nil) and a liability of £56,000 (2008: £16,000).

 

All forward exchange contracts in place at 30 September 2009 mature within one year.

 

Sensitivity analysis

It is estimated that, with all other variables held equal (in particular other exchange rates), a general change of five cents in the value of the US dollar against sterling would have had a £290,000 impact on the Group’s profit before tax for the year ended 30 September 2009. The method of estimation, which has been applied consistently, involves assessing the transaction impact of US dollar cash flows and the translation impact of US dollar profits and losses.

 

The following significant exchange rates applied during the year:
	Average rate	Closing rate	Average rate	Closing rate
	2009	2009	2008	2008
US Dollar	1.538	1.589	1.978	1.843
Euro	1.146	1.088	1.320	1.262

 

(b) Interest rate risk

The Group does not undertake any hedging activity in this area. All foreign currency cash deposits are made at prevailing interest rates and where rates are fixed the period of the fix is generally not more than one month. The main element of interest rate risk concerns borrowings which are made on a floating LIBOR based rate and short-term overdrafts in foreign currencies which are also on a floating

rate.

The floating rate financial liabilities comprise bank loans/overdrafts bearing interest rates fixed by reference to the relevant LIBOR or equivalent rate.

 

The maturity profile of the Group’s financial liabilities at 30 September was as follows:
	2009	2008
	£'000	£'000
In one year or less	14,697	15,908
In more than one year but not more than two years	-	-
In more than two years but not more than five years	-	-
In more than five years	-	-
Total	14,697	15,908
At the reporting date the interest rate profile of the Group's interest bearing financial instruments was as follows:	Carrying	Carrying
	Amount	amount
	2009	2008
	£'000	£'000
Floating rate instruments
Financial assets	1,050	796
Financial liabilities	(14,697)	(15,908)
	(13,647)	(15,112)

 

Financial liabilities consist of overdrafts which are on floating rates or short term loans on rates based on LIBOR plus a fixed margin.

 

All cash deposits are on floating rates or overnight rates based on the relevant LIBOR or equivalent rate.

 

 

(iv) CAPITAL RISK MANAGEMENT

The Group’s objectives when managing capital are to safeguard the Group’s ability to continue as a going concern in order to provide returns for shareholders and benefits for other stakeholders and to maintain an optimal capital structure.

 

In order to maintain or adjust the capital structure the Group may adjust the amount of dividends paid to shareholders, return capital to shareholders or issue new shares.

The Group monitors capital on the basis of the gearing ratio, calculated as net debt divided by capital. Net debt is calculated as total borrowings less cash and cash equivalents. Total capital is measured by the current market capitalisation of the Group, plus net debt. The net debt has been managed carefully and has reduced as disclosed below, consistent with the Group's objectives, thus positively impacting the gearing ratio.

The Group’s net debt at the balance sheet date was:

	2009	2008
	£'000	£'000
Total borrowings	14,697	15,908
Cash and cash equivalents	(1,050)	(796)
Group net debt	13,647	15,112

 

(v) FAIR VALUES
The fair values of financial assets and liabilities, together with the carrying amounts shown in the balance sheet, are as follows:
	Carrying	Fair	Carrying	Fair
	amount	amount	amount	amount
	2009	2009	2008	2008
	£'000	£'000	£'000	£'000
Trade receivables	11,181	11,181	8,800	8,800
Other receivables	3,116	3,116	2,309	2,309
Cash and cash equivalents	1,050	1,050	796	796
Forward exchange contracts
- Assets	31	31	-	-
- Liabilities	(56)	(56)	(16)	(16)
Secured loans	(12,557)	(12,557)	(15,526)	(15,526)
Trade and other payables	(17,931)	(17,931)	(16,465)	(16,465)
Bank overdrafts	(2,140)	(2,140)	(382)	(382)
	(17,306)	(17,306)	(20,484)	(20,484)

 

Included in the above are £1,663,000 (2008: £414,000) of trade receivables, £20,000 (2008: £11,000) of other receivables, £9,000 (2008: £27,000) of cash and £1,735,000 (2008: £920,000) of trade and other payables, which have been presented within assets and liabilities held for sale.

 

The forward exchange contracts are cashflow hedges, the assets are held at fair value through the income statement and the liabilities valued at amortised cost.

 

Basis for determining fair value

The following summarises the significant methods and assumptions used in estimating the fair values of financial instruments reflected in the table above.

 

Derivatives

Forward exchange contracts are valued at year end spot rates, adjusted for the forward points to the contract’s value date, and gains and losses taken to the income statement. No contract’s value date is greater than one year from the year end.

 

Secured loans

As the loans fall due in less than one year, the notional amount is deemed to reflect the fair value.

 

Trade and other receivables/payables

As the majority of receivables/payables have a remaining life of less than one year, the notional amount is deemed to reflect the fair value.

NEXT:  NOTE 20.  SHARE CAPITAL