Page 80 - Annual Report 2010

ANNUAL REPORT 2010

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3. FINANCIAL RISK MANAGEMENT

3.1 Overview of EIF Risk Management

EIF aligns its risk management systems with changing economic conditions, regulatory standards and best market practices. Internal systems are in place to moni-tor, manage and report on the main risks inherent to its operations.

An independent Risk Management and Monitoring divi-sion (RMM) reports directly to the Deputy Chief Executive who in turn is appointed by EIF’s Board of Directors. This segregation of duties and a “four-eyes” principle ensures an unbiased review of EIF’s business activities. Moreover, within the European Investment Bank (EIB) Group context, RMM operates in close contact with the EIB’s Risk Man-agement Directorate. RMM is divided into three units: a Private Equity (PE) Risk Management unit, a Portfolio Guarantees & Securitisation (G&S) Risk Management unit and an Operations (OPS) unit (formerly known as Monitoring and Administration team) covering both busi-ness lines. RMM covers own resources, and mandates managed by EIF on behalf of the related parties (i.e. the EIB and the EC) and other mandators. For more details on EIF mandates please see note 6.

RMM covers EIF’s PE and G&S activities, monitors risk regularly on individual transactions as well as at the port-folio level, and assesses new and existing transactions. For this purpose, RMM:

„„ reviews the risk management methodologies, pro-cesses, and instruments used in EIF’s operations;

„„ issues independent opinions on all new transaction proposals;

„„ independent ly reviews internal rat ings (G&S)/ grades (PE) assigned to transactions;

„„ performs ongoing deal surveillance, monitoring and administration;

„„ applies stress testing scenarios on both G&S and PE portfolios;

„„ checks risk limits;

„„ assesses regulatory and economic capital alloca-tions, and

„„ monitors, benchmarks and forecasts por t folio evolution.

The Investment & Risk Commit tee (IRC) chaired by the Deputy Chief Executive is responsible for reviewing and deciding on new transactions and all risk and investment-related aspects of the existing EIF port folio, inter alia: reviewing the relevant market risk events, reviewing the portfolio and transaction rating/grading movements, de-ciding on impairment of transactions and, on an ad-hoc basis, agreeing on presenting transactions to the Board of Directors for their approval.

3.2 Private Equity (PE)

3.2.1 Background

EIF’s PE business resembles a fund of PE funds, i.e. EIF acts as a limited partner. These minority stakes in funds cata-lyse commitments from a wide range of investors. EIF’s PE operations are focused on early-stage and seed capital, and on mid- and later-stage investments. These latter have a lower risk profile.

Valuation review

Monitoring includes the valuation review of PE funds. This process is divided into several stages to achieve what is known as Operational Adjustment:

„„ Reporting: collection of financial quarterly reports sent by the fund managers as basis for valuation.

„„ Valuations: assessment as to whether valuations are in line with best market practice and applicable in-dustry valuation guidelines. Through its monitoring, EIF produces reports that capture events relevant for valuation, such as:

„„ “Flash reviews” of regular financial reporting received from PE funds.

„„ Monitoring visits.

„„ Any significant information with potential valu-ation impact.

„„ Subsequent event reviews.