Material financial risks
The HUGO BOSS Group is subject to material currency and tax-related risks.
Currency risks
As a result of the global nature of its business activities as well as the Group’s internal financing activities, HUGO BOSS is exposed to currency risks, which may have an impact on the Group's net income and equity.
Currency risks from global sourcing and sales activities
In operating business currency risks primarily arise due to the fact that products are bought and sold in different currencies in different amounts (transaction risk). Significant cash flows in foreign currency result from the sales activities of Group companies in the United States, Great Britain, Australia, Switzerland, Japan, Turkey, Hong Kong and China as well as the sourcing activities in foreign currencies such as the US dollar.
Significant financing loans hedged using forward exchange contracts
Currency risks in financing result from financial receivables and liabilities in foreign currency and loans in foreign currency granted to finance Group companies (transaction risk). A distinction is made between operating loans similar to an overdraft facility and financing loans for Group companies with greater and longer-term financing requirements. As of the reporting date, the main financing loans with repayment on final maturity were hedged using forward exchange contracts.
Balance sheet and income statement influenced by translation risk
In addition, currency risks exist in connection with the translation of financial statements of Group companies outside the Eurozone in the Group currency, the euro (translation risk). The translation risk is monitored on an ongoing basis, however the Group does not hedge it because the influence on the consolidated balance sheet and the Group’s income statement are not a cash item. Notes to the Consolidated Financial Statements, Currency Translation
Currency risks are managed centrally
Currency risks are managed centrally by the Group’s central treasury department. Group-wide guidelines ensure strict separation of the functions of trading, handling and control for all financial market transactions and also form the basis for the selection and scope of hedges. The primary aim is to mitigate the exchange rate exposure using natural hedges. This way, currency exposures from business operations throughout the Group can be offset against each other as much as possible, thereby minimizing the need for hedging measures. Forward exchange contracts and swaps as well as plain vanilla options can be concluded to hedge the remaining exposures. The objective here is to limit the impact of exchange rate fluctuations on exposures already on the balance sheet as well as future cash flows. Notes to the Consolidated Financial Statements, Note 21
Cash flow hedging reduces currency risk from production activities
Future cash flows from the Group’s production activities in Turkey are designated to an effective hedging relationship shown on the balance sheet (hedge accounting). The derivative financial instruments used in this instance are solely intended to hedge underlying transactions. These derivatives are traded over the counter. As a rule, the terms are adjusted to the underlying hedged item when they are concluded, and transactions are concluded with the bank that offers the best terms.
In accordance with the requirements set down in IFRS 7, the HUGO BOSS Group has calculated the effects of translation risk on the Group’s net income and equity. This is determined based on the balance sheet currency exposure as of December 31, 2017. The exposures include cash, receivables and liabilities, as well intercompany loans held in currencies other than the functional currency of each respective Group company.
Transaction risk quantified by sensitivity analysis
As in the previous year, the Group has implemented the value-at-risk method based on a parametric approach to quantify foreign currency risks. Since fiscal year 2016, this concept has also been used as an internal indicator for activities conducted by the Group’s central treasury department. The value at risk is calculated on the basis of historical volatilities and correlations of exchange rates as well as a confidence level of 95%. The holding period is always adjusted to the remaining term of the current year. Furthermore, it is assumed that the total financial currency exposure and its hedging ratio as of the reporting date are representative for the entire reporting period.
Although the VaR is an important concept in measuring market price risks, the model assumptions can limit its usefulness. The actual impact on the Group's net income can vary considerably from the model-based values calculated using the VaR method. This is especially the case in the event of exceptional occurrences.
Swiss franc and Russian ruble pose transaction risk
Aggregated across all currencies examined, the diversified portfolio risk for the Group's net income calculated using this method comes to EUR 6.6 million (2016: EUR 11.6 million). The main drivers behind this are the Swiss franc and Russian ruble. The sensitivity of the Group’s equity is not the same as that of the Group's net income due to the hedge accounting implemented in the Group. Had the euro appreciated or depreciated against the Turkish lira by one standard deviation, the Group’s equity would have been EUR 0.9 million lower or higher in the reporting year (2016: EUR 2.1 million).
Translation effects to weigh heavily on earnings growth in 2018
The Management also expects significant changes in the exchange rates of relevance to HUGO BOSS to be very likely in fiscal year 2018. The Group’s earnings forecast for fiscal year 2018 is based on the assumption that translation effects from the depreciation of many currencies which are important for the Group against the euro will have a negative impact on sales and – despite being partially offset by the manufacturing costs and operating expenses – also on the result. Based on the results of the VaR analysis, the impact of the transaction risk on the Group’s net income is considered to be low. In summary, Management considers the financial impact of currency risks to be moderate. Outlook
Tax risks
Group tax department is responsible for the management of tax risks
As a globally operating group, HUGO BOSS is subject to a variety of tax laws and regulations. Changes in this area could lead to higher tax expenses and tax payments and also have an influence on recognized actual and deferred tax assets and liabilities. All tax-related issues are regularly analyzed and evaluated by the Group's tax department. The estimation of external local experts such as lawyers and tax advisors is also taken into account.
Known tax risks are covered by provisions
Tax risks exist for all assessment periods still open. Sufficient provisions were recognized in prior fiscal years for known tax risks. The amount provided for is based on various assumptions, for example the interpretation of respective legal requirements, the latest court rulings and the opinion of the authorities, which is used as a basis for measuring the loss amount and its likelihood of occurrence. Notes to the Consolidated Financial Statements, Note 6
Regular monitoring of the usability of deferred tax assets on losses carried forward
The Group tax department regularly assesses the likelihood of the future usefulness of deferred tax assets which have been recognized on unused tax losses. This assessment takes into account various factors, such as future taxable results in the planning periods, past results and measures already taken to increase profitability. HUGO BOSS applies a forecast period of a maximum of three years for this purpose. Actual figures may differ from the estimates.
In terms of tax law, risks may result from changes in the tax legislation of individual countries, tax field audits or from diverging estimations of existing issues by the tax authorities. Transfer prices in particular must also be mentioned because of the HUGO BOSS business model. As a result of this, the Group is expecting additional tax risks with a significant financial impact.