Arla Foods Consolidated Annual Report 2021

96 Arla Foods Consolidated Annual Report 2021 / Consolidated Financial Statements / Notes Funding 4.1 FINANCIAL RISKS Contents III 4.1.4 Commodity price risk DIFFICULT HEDGING CONDITIONS IN A VOLATILE MARKET Supply contracts are predominately related to a floating official price index. The Treasury department uses financial derivatives to hedge commodity price risk. This secures full flexibility to change suppliers without having to take future hedging into consideration. Hedging activities focus on the most significant risks, including electricity, natural gas and diesel. The total energy commodity spends, excluding taxes and distribution costs, amounted to approximately EUR 70 million at the start of the year, and with the prices at 31 December 2021 the total energy commodity spend has increased to EUR 350 million for 2022. Table 4.1.4 Hedged commodities (EURM) The purpose of hedging is to reduce volatility in energy- related costs. In 2021, hedging activities resulted in a gain of EUR 29 million compared to a loss of EUR 15 million last year. However, the gain in 2021 was more than offset by significantly higher physical energy costs. The result of hedging activities, classified as hedge accounting, is recognised in other income and costs. At the end of 2021, 25 per cent of the energy spend for 2022 was hedged. A 25 per cent increase in commodity prices would negatively impact profit by approximately EUR 66 million. Conversely, other comprehensive income would be positively impacted by EUR 14 million. Potential accounting impact Risk Risk mitigation The group is exposed to commodity risks related to the production and distribution of dairy products. Increased commodity prices negatively impact production and distribution costs. Fair value sensitivity A change in commodity prices will impact the fair value of the group's hedged commodity derivative instruments, measured through other comprehensive income and the unhedged energy consumption through the income statement. The table shows the sensitivity of a 25 per cent increase in commodity prices for both hedged and unhedged commodity purchases. A decrease in commodity prices would have the opposite effect. Policy According to the treasury and funding policy, the forecasted consumption of electricity, natural gas and diesel can be hedged for up to 36 months, of which 100 per cent can be hedged for the first 18 months, with a limited proportion thereafter. How we act and operate Energy commodity price risks are managed by the Treasury department. Commodity price risks are mainly hedged by entering into financial derivative contracts, which are independent of the physical supplier contracts. Arla is also exploring other commodities relevant for financial risk management. Arla's energy exposure and hedging are managed as a portfolio across energy type and country. Not all energy commodities can be effectively hedged by matching the underlying costs, but Arla aims to minimise the basic risk. Dairy derivative markets in the EU, the US and New Zealand remain small but are evolving. The group has engaged in hedging activities for a small part of the group's dairy commodity trading volume. As the dairy derivative market develops, we expect this to play a role in managing fixed price contracts with customers in the coming years. 2021 Diesel/natural gas Electricity Sensitivity Contract value Income statement Other comprehen- sive income 25% 25% 221 15 -43 12 -23 27 -66 14 7 74 2020 25% 2 -7 Diesel/natural gas 25% -4 Electricity 2 -11 10 649

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