Volex : Annual Report and Notice of AGM

Risk

Possible impact

Mitigation activities

Strategic

Customer Concentration

A large portion of the Group's revenue is derived from a small number of large customer accounts. Hence, the Group's performance, financial condition and future prospects may be significantly impacted if allocation on a key customer account is reduced or lost or a key customer weakens its competitive position in the industry fields relevant to the Group.

The Group's top ten customers accounted for 68% (with no change from previous year) of total revenue. At a divisional level, the top ten customers' revenue for Data and Power divisions accounted for 84% and 73% respectively.

The Group's largest customer accounted for 27% of total revenue, representing a 4% increase from the previous year.

The Group continues to strengthen strategic relationships with key customers through dedicated global account teams. Alliances are built through partnering customers in their product design, placing focus on technical alignment.

Whilst the Group strengthens existing customer relationships, the Group actively takes steps to acquire new customers and develop new products.

The Group's diversification of business between the two divisions and across geographical regions mitigates exposure to any one country or sector.

Customer alignment

The Group's business is responsive to changes in customer design, manufacturing strategies and demand forecast, all of which impacts the Group's manufacturing activities and inventory levels.

Without aligning with customer requirements, flaws in product design, manufacturing process and demand forecasting may result in product quality or safety issues, production inefficiencies and holding excess inventory.

Failure to understand customers' needs and/or align with customers may have an adverse effect on the Group's revenues, operations and prospects.

The Group continues to partner its key customers and suppliers in product development, anticipating changes in technology and product design requirements.

Major customer and operation scorecards are developed and regularly reviewed.

High levels of quality assurance are embedded in our manufacturing activities.

At operational level, the Group works closely with customers to ensure that their demand forecasting is appropriate to market conditions.

Competition and pricing pressures

The Group operates in highly competitive markets. Increased competition and pricing pressures from customers may lead to reduced sales and profit margins, potentially impacting future growth, cash flow and profitability.

The Group seeks to remain competitive by managing costs within the supply chain and increasing productivity in the manufacturing process.

The Group continues its strategy of early design involvement with customers and supporting customers in product development.

The Group regularly reviews the competitive environment in which it operates.

Operational

Supplier dependency

Despite efforts in the past years to reduce this risk, the Group still remains heavily reliant on single-source suppliers for key materials or critical components. The suppliers' inability to meet our standards such as quality, reliability, demand and cost reductions may result in our inability to provide the same level of standards to our customers.

As the Group's ability to compete on price is highly dependent on reducing costs within its supply chain, failure to develop alternate sourcing may result in lost opportunities and erosion of margins.

The Group continues to develop alternate supply of raw materials and critical components through dual or multi-sourcing locally.

Divisional procurement functions were established during the year. The new structure plays a significant role in supporting the procurement strategy and driving operational excellence.

Financial and operational viability of key suppliers are monitored periodically. The Group's inventory levels are closely monitored to ensure that they are appropriate to market conditions and availability in times of production volatility.

Supply chain and business continuity

The Group's supply chain network is potentially exposed to adverse events such as physical disruptions resulting from environmental events or industrial accidents, and scarcity of supply or bankruptcy of a key supplier.

A temporary or permanent loss of a manufacturing facility or warehouse as a result of a natural catastrophe or any other reason may have a material adverse impact on our ability to meet our customers' delivery schedule.

Consequently, the Group may incur penalties as a result of late delivery, reducing margins by incurring additional costs associated with late remedial actions or loss of market share.

The Group may also be affected by the social, economic, regulatory and political conditions in the countries where it operates, particularly in developing countries.

The Group regularly evaluates its key manufacturing sites and takes actions to develop alternate back-up sites. The current global footprint provides an element of natural diversification against political or geographic disruptions.

Business continuity and crisis management plans are in place and tested periodically.

The Group holds a comprehensive insurance programme that includes coverage for property damage and business interruption, amongst other areas.

Compliance

Compliance with legislation and regulations

As the Group operates in diverse global markets, it is subject to a wide range of legal and regulatory frameworks. In particular, the Group operates in certain territories where strong ethical standards may not be well established or where parts of the markets in which we operate are highly regulated.

Regulations include those related to export controls, health, environmental and safety requirements, product safety, tax laws and ethical business practices including anti-bribery and corruption.

Non-compliance may expose the Group to fines, penalties, reputational damage or restriction on our business's ability to operate.

Regular monitoring of legal and regulatory developments is conducted at Group, division and site level. Consultation with external advisors is sought where necessary.

Group-wide general compliance and governance policies are in place to ensure compliance with local laws, regulations and standards.

During the year, a new Anti-Bribery & Anti-Corruption Policy was rolled out. As part of the rollout, an independent whistle-blowing hotline was established, communicated, and training provided to employees globally.

Financial

Going concern

The Group has a $45 million multi-currency revolving credit facility extended to June 2017. The facility is subject to a quarterly assessment of two financial covenants, namely the leverage covenant and interest covenant.

Whilst the Group's forecasts have indicated that both covenants will be met, any unforeseen downturn may result in failure to meet the covenant test. Consequently, this may result in an 'event of default' where immediate repayment is requested.

The Group reviews its performance against budget to ensure that funding is balanced against economic results.

The Group continues to maintain an open and transparent dialogue with the facility providers to ensure that they are well aware of the developments in the business.

The Group's forecasts indicate that it will meet the covenant tests under the facility. If performance was not in line with the forecast, the Group has a number of mitigating actions that could be implemented.

Foreign exchange fluctuations

Due to the global nature of operations, the Group is exposed to volatility in the foreign exchange market and foreign exchange fluctuations may have a material impact on the reported results.

The Group is exposed to currency transactional risk relating to day-to-day sales and purchases with customers and suppliers. Reported results of overseas subsidiaries are subject to translational risk which may cause volatility in earnings and balance sheet.

The Group's financial results may be impacted by the fluctuation of the US Dollar against foreign currencies, exchange rate controls or regulatory restrictions on transfers of funds.

The Group Treasury Policy Statement sets out procedures on exchange rate risk management.

Billing currencies have been adjusted to achieve a higher level of natural hedging where possible.

In order to minimise foreign exchange fluctuations in the income statement of the Group, drawdowns on the senior credit facility in currencies other than the functional currency of the drawing entity will be treated where possible as a net investment hedge.

Copper price volatility

Many of the Group's products, particularly in the Power division, are manufactured from wire components that contain significant amounts of copper. Wire components accounted for 51% of the Group's purchases.

Where possible, copper price movements are passed on to customers. However, not all customers accept these pricing changes leaving the Group exposed to the movements in the copper price.

Even when movements are passed on to customers, delays in passing through these movements can cause short term volatility in the Group's gross margins.

The Group adopts a copper hedging policy which was agreed by the Board and documented in the Group Copper Hedging Policy. This document sets out the guidelines and parameters within which copper hedging contracts are placed. These forward copper purchase contracts extend out 12 months and are refreshed on a rolling monthly basis.

To minimise short term volatility, contracts with major suppliers include a clause that ensures that copper prices are fixed based on the average LME rate over the prior period.

Customer contracts covering approximately 20% of Power revenues include clauses which ensure that the prices are adjusted on a quarterly basis to align with the changes in supplier contracts. For the remaining exposure, suitable hedging contracts are put in place in accordance with Group policy.