Venezuela, use of synthetic rate, Argentina hyperinflation

Smurfit Kappa Group plc – Half year report – 30 June 2018

Industry: packaging

Notes to the Condensed Consolidated Interim Financial Statements (extract)

  1. Venezuela

Hyperinflation

As discussed more fully in the 2017 annual report, Venezuela became hyperinflationary during 2009 when its cumulative inflation rate for the past three years exceeded 100%. As a result, the Group applied the hyperinflationary accounting requirements of IAS 29 – Financial Reporting in Hyperinflationary Economies to its Venezuelan operations at 31 December 2009 and for all subsequent accounting periods.

In 2018 and 2017, management engaged an independent expert to determine an estimate of the annual inflation rate. The estimated level of inflation to June 2018 is 2,213% (2017: 301%). As a result of the entries recorded in respect of hyperinflationary accounting under IFRS, the Condensed Consolidated Income Statement is impacted as follows: Revenue €1 million decrease (2017: €25 million decrease), EBITDA €20 million decrease (2017: €22 million decrease) and profit after taxation €26 million decrease (2017: €27 million decrease). In 2018, a net monetary loss of €11 million (2017: €11 million net monetary loss) was recorded in the Condensed Consolidated Income Statement. The impact on our net assets and our total equity is an increase of €98 million (2017: €127 million increase).

Exchange Control

In 2017, the Government continued to operate the DIPRO and DICOM exchange mechanisms. In January 2018, the Government implemented a reformed exchange rate system for the country. The DIPRO rate was eliminated and the Government mandated that all future foreign exchange transactions be conducted at a renewed DICOM rate. The first auction under the new system was held on 1 February 2018 and the DICOM rate moved to VEF 25,000 per US dollar. Subsequent to this, the economic and political crisis in Venezuela worsened, with a substantial increase in inflation rates. However, in the second quarter of 2018, the renewed DICOM rate has not increased in line with inflation, and therefore is not representative of the rate at which the Group extracts economic benefit from its Venezuelan operations.

These currency exchange controls in Venezuela restrict our ability to convert amounts generated by our Venezuelan operations into US dollars, for instance for the payment of dividends.

At June 2018, in the absence of official rates that are representative of the economic environment in Venezuela, the Group assessed the need to estimate an exchange rate (synthetic exchange rate) which tracks inflation in Venezuela and reflects the rate at which the Group extracts economic benefit from its Venezuelan operations. In calculating a synthetic rate, the Group used DICOM at 31 March 2018 as a starting point, when it was more aligned with inflation, and restated it using the estimated second quarter inflation rate.

The exchange rate calculated under the described methodology at 30 June 2018 was 233,815 VEF/USD. The DICOM rate was 115,000 VEF/USD at that date. On this basis, the financial statements of the Group’s operations in Venezuela were translated at 30 June 2018 using a synthetic rate of VEF 233,815 per US dollar and the closing euro/US dollar rate of 1 euro = US$1.1658.

Control

The nationalisation of foreign owned companies or assets by the Venezuelan government remains a risk. Market value compensation is either negotiated or arbitrated under applicable laws or treaties in these cases. However, the amount and timing of such compensation is necessarily uncertain.

The Group continues to control operations in Venezuela and, as a result, continues to consolidate all of the results and net assets of these operations at the period end in accordance with the requirements of IFRS 10, Consolidated Financial Statements.

In 2018, the Group’s operations in Venezuela represented approximately 0.6% (2017: 1.6%) of its EBITDA, 1.2% (2017: 1.4%) of its total assets and 2.3% (2017: 3.3%) of its net assets. Cumulative foreign translation losses arising on its net investment in these operations amounting to €1,230 million (2017: €1,072 million) are included in the foreign currency translation reserve.

  1. Events after the Balance Sheet Date

On 2 July 2018, the Group completed the acquisition of Reparenco, a privately owned paper and recycling business, for an enterprise value of €460 million. This acquisition will increase Smurfit Kappa’s integration of containerboard and recycling operations into the Group in response to growing demand in particular from the eCommerce sector. The Group has not yet completed an initial purchase price allocation due to the timing of the closure of this transaction.

Three-year cumulative inflation in Argentina using the wholesale price index has now exceeded 100% indicating that Argentina is a hyper-inflationary economy for accounting purposes and should be considered as such from 1 July 2018. The Group will apply IAS 29 to the results of our Argentinian operations from this date.

 

 

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