BP Annual Report and Form 20-F 2011 - Company Reporting

Notes on financial statements26. Financial instruments and financial risk factors continuedAt 31 December 2011, 77% (2010 80%) of the carrying amount of non-current available-for-sale equity financial assets represented the group’s stake inRosneft, thus the group’s exposure is concentrated on changes in the share price of this equity investment in particular.(b) Credit riskCredit risk is the risk that a customer or counterparty to a financial instrument will fail to perform or fail to pay amounts due causing financial loss tothe group and arises from cash and cash equivalents, derivative financial instruments and deposits with financial institutions and principally from creditexposures to customers relating to outstanding receivables.The group has a credit policy, approved by the CFO, that is designed to ensure that consistent processes are in place throughout the group tomeasure and control credit risk. Credit risk is considered as part of the risk-reward balance of doing business. On entering into any business contractthe extent to which the arrangement exposes the group to credit risk is considered. Key requirements of the policy are formal delegated authorities tothe sales and marketing teams to incur credit risk and to a specialized credit function to set counterparty limits; the establishment of credit systems andprocesses to ensure that counterparties are rated and limits set; and systems to monitor exposure against limits and report regularly on those exposures,and immediately on any excesses, and to track and report credit losses. The treasury function provides a similar credit risk management activity withrespect to group-wide exposures to banks and other financial institutions.The global credit environment exhibited deterioration in 2011, suffering not only from continuing economic and political uncertainties but also fromkey event risks, causing the group to further heighten awareness, discussion and co-ordination around the material credit risks arising from its activities.Before trading with a new counterparty can start, its creditworthiness is assessed and a credit rating is allocated that indicates the probabilityof default, along with a credit exposure limit. The assessment process takes into account all available qualitative and quantitative information aboutthe counterparty and the group, if any, to which the counterparty belongs. The counterparty’s business activities, financial resources and business riskmanagement processes are taken into account in the assessment, to the extent that this information is publicly available or otherwise disclosed to BP bythe counterparty, together with external credit ratings. Creditworthiness continues to be evaluated after transactions have been initiated and a watchlist ofhigher-risk counterparties is maintained.The group does not aim to remove credit risk but expects to experience a certain level of credit losses. The group attempts to mitigate creditrisk by entering into contracts that permit netting and allow for termination of the contract on the occurrence of certain events of default. Depending onthe creditworthiness of the counterparty, the group may require collateral or other credit enhancements such as cash deposits, letters of credit, tradecredit insurance, liens, third-party guarantees and other forms of credit mitigation. Trade receivables and payables, and derivative assets and liabilities,are presented on a net basis where unconditional netting arrangements are in place with counterparties and where there is an intent to settle amountsdue on a net basis. The maximum credit exposure associated with financial assets is equal to the carrying amount. Collateral received and recognizedin the balance sheet at the year end was $273 million (2010 $313 million) and collateral held off balance sheet was $6 million (2010 $52 million). As at31 December 2011, the group had in place other credit enhancements designed to mitigate approximately $8.6 billion of credit risk (2010 $7.0 billion).Credit exposure exists in relation to guarantees issued by group companies under which amounts outstanding at 31 December 2011 were $415 million(2010 $404 million) in respect of liabilities of jointly controlled entities and associates and $1,430 million (2010 $1,339 million) in respect of liabilities ofother third parties.Notwithstanding the processes described above, significant unexpected credit losses can occasionally occur. Exposure to unexpected lossesincreases with concentrations of credit risk that exist when a number of counterparties are involved in similar activities or operate in the same industrysector or geographical area, which may result in their ability to meet contractual obligations being impacted by changes in economic, political or otherconditions. The group’s principal customers, suppliers and financial institutions with which it conducts business are located throughout the world. Inaddition, these risks are managed by maintaining a group watchlist and aggregating multi-segment exposures to ensure that a material credit risk isnot missed.Reports are regularly prepared and presented to the GFRC that cover the group’s overall credit exposure and expected loss trends, exposure bysegment, and overall quality of the portfolio. The reports also include details of the largest counterparties by exposure level and expected loss, and detailsof counterparties on the group watchlist.For the contracts comprising derivative financial instruments in an asset position at 31 December 2011, it is estimated that over 76% (2010 over80%) of the unmitigated credit exposure is to counterparties of investment grade credit quality.For cash and cash equivalents, the treasury function dynamically manages bank deposit limits to ensure cash is well-diversified and to reduceconcentration risks. At 31 December 2011, 98% of the cash and cash equivalents balance was deposited with financial institutions rated at least A byStandard & Poor’s and A2 by Moody’s. Direct cash and cash equivalent exposures to Greek, Italian, Irish, Portuguese and Spanish financial institutionstotalled less than 1% of total cash and cash equivalents.Trade and other receivables of the group are analysed in the table below. By comparing the BP credit ratings to the equivalent external creditratings, it is estimated that approximately 70-80% (2010 approximately 50-60%) of the unmitigated trade receivables portfolio exposure is of investmentgrade credit quality. With respect to the trade and other receivables that are neither impaired nor past due, there are no indications as of the reportingdate that the debtors will not meet their payment obligations.$ millionTrade and other receivables at 31 December 2011 2010Neither impaired nor past due 34,563 30,181Impaired (net of valuation allowance) 33 67Not impaired and past due in the following periodswithin 30 days 1,263 1,35831 to 60 days 250 24961 to 90 days 132 101over 90 days 638 42436,879 32,380220 BP Annual Report and Form 20-F 2011