Strategic risk assessment is part of the strategic planning process within the Group. At Wärtsilä, strategic risks are defined as potentially having a long-term impact on the business.
Business environment risks
The business cycles in the global economy and in our customer's industries influence the demand for our products, as well as our financial position and operating result. The flexible multi-product manufacturing model based on capacity outsourcing, together with a stable business mix with a large share of sales deriving from Services, brings Wärtsilä certain stability in a cyclical market. Important economic matters that indirectly affect Wärtsilä, its clients, and suppliers include inter alia, the liquidity and solvency of the financial institutions - and thus not only their capability but also their willingness to extend credit, the counter cyclical stimulus programmes adopted by governments - especially in the power and infrastructure sectors, the enhanced activities of multilateral institutions such as the IFC, the availability of export credit schemes and guarantees, and other such factors. However, the relatively large order book gives Wärtsilä time to adapt to market conditions.
The implementation of environmental regulations is important for the future growth potential in specific business segments. In 2012 it had still a limited effect on Wärtsilä. However, the acquisition of Hamworthy in early 2012 has expanded Wärtsilä's offering of environmental solutions. This supports Wärtsilä's growth objectives. Wärtsilä actively monitors possible changes in the legislation timeline and scope.
Market and customer risks
In the Power Plants business, there was positive development in large power plant orders, and we received orders for our two largest projects ever during the year. In general, the non-OECD markets remained very active, but in the OECD countries slow growth has delayed investments in power generation. Wärtsilä's installed base is evenly spread geographically with power plants delivered to 169 different countries. This mitigates both the market and customer risk faced by the power plant business.
The business environment for the shipping and shipbuilding industry is challenging, and concerns over the global economy continue to cause uncertainty. The uneven development between various Ship Power customer segments continued throughout the year 2012. The merchant shipping sector in general still suffers from overcapacity, whereas various areas of specialised tonnage, and especially the offshore industry, continue to make investments. The shipbuilding market is dominated by Asian yards in South Korea, China and Japan. Wärtsilä is well represented in all the major shipbuilding areas and is active in all the main vessel segments. This mitigates both single customer related and geography related risks.
The Services business increased by 5% during 2012, and its long-term business is expected to grow in line with the development of the existing installed base, as well as with general economic development. However, the prevailing conditions of the marine merchant market segment impose a challenge for the Service business. Wärtsilä has more than ten thousand individual customers engaging in service and spare part sales annually, and the current active engine base is approximately 181,000 MW. Due to this the dependency on any single customer or customer segment is minor.
During the last few years, Wärtsilä has increased its focus on credit management processes to better manage the increasing risks resulting from higher leverage and decreasing profitability in certain customer segments. Exposure to individual customers is limited, but an industry-wide impact might also affect the profitability of Wärtsilä's Services business.
Competitive situation and price risk
In the liquid fuels based power plant market, Wärtsilä's main competitors are MAN Diesel, Caterpillar (MAK), and Rolls-Royce. In natural gas based power generation, the main competitors are gas turbine manufacturers, such as GE and Siemens. In the first half of 2012, the overall market size for natural gas and liquid fuel based power plants was significantly reduced. In this challenging market environment, Wärtsilä's overall market size is expected to increase. Wärtsilä's success in the market can be attributed to the flexible power generation solution, which can be used in a wide range of different applications and sizes of power plant.
For Ship Power, price competition has continued to be intense. For main engines, the most significant competitors are MAN Diesel, Caterpillar (MAK), and Hyundai Heavy Industries (HiMSEN). The competitive situation and market shares remained largely unchanged during 2012. In propulsion equipment, the competition is more fragmented and varies by product category. One of the main competitors for these products is Rolls-Royce. In environmental solutions, as well as in flow and gas products, the markets are very fragmented. Alfa Laval is one of the competitors in these product areas. The concept of selling packaged solutions rather than only single products reduces price volatility. The strategic move to become a systems integrator with automation and ship design capability has proven to be very important in the competition for new projects with larger and more value-added scopes. However, larger projects may increase variations in business volume depending on the timing of the projects.
In the Services business, Wärtsilä has no direct competitors that would offer a similar portfolio of services from a single source. Excluding the service networks of other engine manufacturers, there are few global players in the service market. Increased pressure on profitability, especially in the marine merchant sector, can lead to a further increase in competition for service in that particular customer segment. There has always been price competition, especially among certain customer groups and application types. The size of this group has, however, not changed to any larger degree.
Political and legislative risks
Wärtsilä is present in nearly 200 locations in nearly 70 countries and has delivered power plants to 169 countries. Political developments and changes in legislation can have a significant impact on Wärtsilä's business. Wärtsilä actively monitors political and legal developments in its markets and engages in dialogue with various official bodies on projects of importance to Wärtsilä's operations. Much of this engagement takes place through interest groups and trade organisations. The company monitors political and legislative changes at both corporate and subsidiary levels.
Climate change and sustainability risks
Wärtsilä has assessed its sustainability risks, including climate change risks, in both strategic and operative risk assessments. However, the risks were not found to be significant. The potential business risks related to sustainability, climate change, and Wärtsilä's products are in the areas of regulatory emission restrictions and changes in customer attitudes to using combustion engines and fossil fuels. The risks in environmental legislation changes are related to the complexity of the overall field of different emissions, the balance between commercially available fuels and resulting emissions, available abatement technologies, the impact on overall energy efficiency, and the resulting financial feasibility of the various alternative ways to meet regulatory demands.
Being at the forefront of technological developments mitigates sustainability risks and gives Wärtsilä many opportunities arising from tightening environmental regulations. Over the years, Wärtsilä has worked continuously to improve the efficiency of its products while at the same time seeking ways to reduce emissions. The fuel flexibility of Wärtsilä's products enables the utilisation of various fuels, including gas and those from renewable sources, while their operational flexibility enables the installation of large capacity based wind and solar energy systems without hampering the reliability of the electricity grid. Wärtsilä's technology also enables energy to be generated with a minimum use of water. The lack of fresh water is expected to be one of the major challenges facing the world in the future. In shipping, Wärtsilä can reduce the carbon footprint of ships through optimised ship design, and optimal propulsion solutions. Environmental Solutions offer alternative technologies to reduce SOx emissions and to treat waste and ballast water. In Power Plants, Wärtsilä's Smart Power Generation concept supports the increase in low carbon power generation, including wind, solar and natural gas fired plants. Wärtsilä offers several retrofit solutions for the after-sales market to reduce emissions and to increase fuel efficiency.
Risk of non-compliance, corruption and fraud
Wärtsilä is in compliance with the law and Wärtsilä's own internal regulations everywhere Wärtsilä does business. Wärtsilä's Code of Conduct is the key guideline for all Wärtsilä employees globally. Wärtsilä is committed to high ethical standards and integrity in its businesses, preventing corruption and violations of the principles set forth in the Code of Conduct, Wärtsilä's Anti-Corruption Policy, and Wärtsilä's Compliance Reporting Policy. Wärtsilä's compliance processes are embedded in all of the businesses, and the responsibility for compliance and awareness of ethics and integrity is that of all Wärtsilä employees.
Wärtsilä is fully committed to compliance with the anti-corruption laws and statutes. Wärtsilä's Anti-Corruption Policy absolutely forbids any kind of corruption and bribery, and the top-management of the company has zero-tolerance regarding corruption and fraud.
In 2012, compliance was strengthened to become a dedicated function in order to support the compliance objectives. The Compliance function promotes group wide compliance and continuously strives to raise awareness of the risk of corruption and bribery. It is also primarily responsible for group level policies and procedures, training, compliance investigations, managing the consequences of non-compliance, and reporting. Further developing Wärtsilä's compliance programme and nurturing Wärtsilä's commendable ethical culture are integral parts of the Compliance function's task. Moreover, Compliance supports and co-operates with other corporate functions in their risk management efforts.
While Wärtsilä is aware of the risk of being subject to fraud by external business parties, and that the risk of corruption and fraud is heightened in many markets where Wärtsilä operates, Wärtsilä maintains its highly ethical practices at all times. Full compliance with its stringent anti-corruption regime, including policies to prevent the corruption and bribery risk of third parties, is demanded by Wärtsilä.
Wärtsilä aims to increase the competitiveness of its solutions, and therefore limit its technological risks, through solid R&D work and innovation. New products are developed based on Wärtsilä's strategic view of offering lifecycle solutions, and with a focus on efficiency through, for example, ship design, electrical & automation, and environmental technologies. As a technology leader, Wärtsilä needs also to maintain the cost competitiveness of its products, and consequently places high emphasis on product efficiency and emissions control.