Market risk

As part of its operations as an industrial holding company, Enel SpA is exposed to different market risks, notably the risk of changes in interest rates, exchange rates and, to a limited extent, commodity prices.

As the parent company, Enel SpA centralizes treasury management functions and access to financial markets with regard to derivatives contracts that do not have energy commodities as underlyings for the entire Group, with the exception of Endesa SA and its subsidiaries. As part of this activity, the Company takes matching positions with the market and the Group companies. The notional amount of these transactions can be substantial, but it does not represent an exposure to markets risks for Enel SpA.

The nature of the financial risks to which the Company in exposed is such that changes in interest rates cause changes in cash flows associated with interest payments on long-term floating-rate debt instruments, while changes in the exchange rate between the euro and the main foreign currencies have an impact on the value of the cash flows denominated in those currencies.

In compliance with Group policies for managing financial risks, Enel Spa generally hedges these exposures using over-the-counter derivatives (OTC).

Such transactions that meet the requirements of IAS 39 for hedge accounting are designated as cash flow hedges where appropriate, while those that do not meet such requirements are classified as non-hedge-accounting trading transactions.

Finally, in order to take advantage of special market conditions, the Company may undertake non-hedge transactions. These operations, which are marginal in amount, are conducted within a framework of governance rules that establish strict risk limits at the Group level. Compliance with the limits is verified daily by a unit that is independent of those undertaking the transactions.

The following section reports the scale of transactions in derivatives outstanding at December 31, 2009, specifying the fair value and notional value of each class of instrument as calculated at the year-end exchange rates provided by the European Central Bank where denominated in currencies other than the euro.

The fair value of a financial instrument is determined using the official prices for instruments traded on regulated markets. The fair value of instruments not listed on regulated markets is determined using valuation methods appropriate for each type of financial instrument and market data as of the close of the period (such as interest rates, exchange rates, commodity prices, volatility), discounting expected future cash flows on the basis of the market yield curve at the balance sheet date.

The measurement criteria adopted for open derivatives positions at the end of the year were unchanged with respect to those used at the end of the previous year. The impact of such measurements on profit or loss and shareholders’ equity are therefore attributable solely to normal market developments.

The notional value of a derivative contract is the amount on which cash flows are exchanged. This amount can be expressed as a value or a quantity (for example tons, converted into euro by multiplying the notional amount by the agreed price).

The notional amounts of derivatives reported here do not represent amounts exchanged between the parties and therefore are not a measure of the Company’s credit risk exposure.

Interest rate risk

Interest rate risk management is aimed at reducing the amount of debt exposed to interest rate fluctuations and containing borrowing costs, limiting the volatility of results. To this end, Enel SpA entered into a variety of derivatives contracts, notably interest rate swaps and interest rate collars, as detailed below:

The term of such contracts does not exceed the maturity of the underlying financial liability, so that any change in the fair value and/or cash flows of such contracts is offset by a corresponding change in the fair value and/or cash flows of the underlying position.

Interest rate swaps normally provide for the periodic exchange of floating-rate interest flows for fixed-rate interest flows, both of which are calculated on the basis of the notional principal amount.

Interest rate collars involve the exchange of interest differences calculated on a notional principal amount once certain thresholds are reached. These thresholds specify the maximum rate (cap strike) or the minimum rate (floor strike) to which the debt will be indexed as a result of the hedge. They are generally set so that no premium is paid on the contract (zero-cost collars).

Interest rate collars are normally used when the fixed interest rate that can be obtained in an interest rate swap is considered too high with respect to Enel’s expectations for future interest rate developments. In addition, interest rate collars are also considered appropriate in periods of uncertainty about future interest rate developments, in order to benefit from any decreases in interest rates.

The notional value of open interest rate swaps at the end of the year was €11,817.3 million (€12,159 million December 31, 2008), of which €5,383.7 million (€6,067.4 million December 31, 2008) in respect of hedges of the Company’s share of floating-rate debt; the remainder of the notional, equal to €3,216.8 million (€3,045.8 million in 2008) regards derivatives contracts with Group companies with a corresponding amount of interest rate swaps with external counterparties.

The notional value of open interest rate collars at the end of the year was €2,700.0 million (€2,700.0 million in 2008), all of which in respect of hedges on Enel SpA’s debt.

The following table reports the notional amount and fair value of interest rate derivatives at December 31, 2009 and December 31, 2008.

The following table reports the cash flows expected in coming years from the these financial derivatives.

The amount of Enel SpA’s floating-rate debt that is not hedged against interest rate risk is the main risk factor that could impact the income statement (raising borrowing costs) in the event of an increase in market interest rates.

At December 31, 2009, 62% of gross long-term debt due to third parties was floating rate (71% at December 31, 2008). Taking account of cash flow hedges of interest rates considered effective pursuant to the IFRS–EU, 46% of the debt was exposed to interest rate risk at December 31, 2009 (53% at December 31, 2008).

Including interest rate derivatives treated as hedges for management purposes but ineligible for hedge accounting, the residual exposure of net financial debt to interest rate risk would be 38%.

If interest rates had been 1 basis point higher at December 31, 2009, all other variables being equal, shareholders’ equity would have been about €1.9 million higher (€2.1 million at December 31, 2008) as a result of the increase in the fair value of CFH derivatives on interest rates. Conversely, if interest rates had been 1 basis point lower at that date, all other variables being equal, shareholders’ equity would have been €1.9 million lower (€2.1 million at December 31, 2008) as a result of the decrease in the fair value of CFH derivatives on interest rates.

An increase in interest rates of 1 basis point, all other variables being equal, would have a negative impact on the income statement in terms of higher annual interest expense on the portion of debt not hedged against interest rate risk of about €1.2 million.

An equivalent decrease in interest rates, all other variables being equal, would have a positive impact on the income statement in terms of lower annual interest expense on the portion of debt not hedged against interest rate risk of about €1.2 million.

Exchange rate risk

In order to minimize the Group’s exposure to changes in exchange rates generated by assets, liabilities and expected cash flows denominated in foreign currencies, the Company normally uses a variety of OTC derivatives such as currency forwards and cross currency interest rate swaps. The term of such contracts does not exceed the maturity of the underlying exposure.

Cross currency interest rate swaps are used to transform a long-term fixed- or floating-rate liability in foreign currency into an equivalent fixed- or floating-rate liability in euros. In addition to having notionals denominated in different currencies, these instruments differ from interest rate swaps in that they provide both for the periodic exchange of cash flows and the final exchange of principal.

Currency forwards are contracts in which the counterparties agree to exchange principal amounts denominated in different currencies at a specified future date and exchange rate (the strike). Such contracts may call for the actual exchange of the two amounts (deliverable forwards) or payment of the difference between the strike exchange rate and the prevailing exchange rate at maturity(non-deliverable forwards). In the latter case, the strike rate and/or the spot rate may be determined as averages of the official fixings of the European Central Bank.

The following table reports the notional amount of transactions outstanding at December 31, 2009 and December 31, 2008, broken down by type of hedged item.

More specifically, these include:

• currency forward contracts with a notional value of €6,363.3 million (€7,828.1 million at December 31, 2008) used to hedge the exchange rate risk associated with purchases of energy commodities by Group companies;
• currency forward contracts with a notional value of €1,126.4 million essentially used to hedge the exchange rate risk associated with other cash flows in currencies other than the euro (€1,063.6 million at December 31, 2008) on behalf of the Company and other Group companies;
• cross currency interest rate swaps with a notional value of €19,053.7 million (€8,661.8 millions December 31, 2008) to hedge the exchange rate risk on foreign currency debt.

The following table reports the notional amount and fair value of exchange rate derivatives at December 31, 2009 and December 31, 2008.

The following table reports the cash flows expected in coming years from these financial derivatives.

The Company’s exposure to exchange rate risk on the basis of notional value in foreign currency is reported below:

Notes
(1)  Fully hedged by cross currency interest rate swaps.

As regards exchange rate risk, net long-term debt denominated in foreign currency, equal to 4.2% of the total (3.0% al December 31, 2008), is fully hedged by cross currency interest rate swaps.

At December 31, 2009, assuming a 10% appreciation of the euro against the currencies in which the debt is denominated, all other variables being equal, shareholders’ equity would have been €143.6 million lower (€147.6 million at December 31, 2008) as a result of the decrease in the fair value of CFH derivatives on exchange rates.Conversely, assuming a 10% depreciation of the euro against the currencies in which the debt is denominated, all other variables being equal, shareholders’ equity would have been about €175.5 million higher (€180.4 million at December 31, 2008) as a result of the increase in the fair value of CFH derivatives on exchange rates.

Commodity risk

Various types of derivatives are used to reduce the exposure to fluctuations in commodity prices, especially swaps.

The exposure is primarily hedged with Enel Trade, which hedges the risk of changes in the prices of the commodities to which the related contracts are indexed on behalf of Group companies.

At December 31, 2009 there were no embedded derivatives to separate.