Risks and uncertainties

Introduction Risk is an accepted part of doing business. The real challenge for any business is to identify the principal risks it faces and to develop and monitor appropriate controls. A successful risk management process balances risks and rewards and relies on a sound judgement of their likelihood and consequence.

The Board has overall responsibility for risk management and internal control within the context of achieving the Group’s objectives. Our process for identifying and managing risks is set out in more detail from page 47 of the Corporate Governance section of this Annual Report and Financial Statements. The key risks faced by the Group and relevant mitigating factors are set out below.

Business strategy If our strategy follows the wrong direction or is not effectively communicated then the business may suffer. We need to understand and properly manage strategic risk in order to deliver long-term growth for the benefit of all our stakeholders. Our strategy is based on five elements: to become a successful international retailer, to grow the core UK business, be as strong in non-food as in food, develop retailing services and put the community at the heart of what we do. Pursuit of this five-part strategy has allowed the business to diversify and, at a strategic level, diversification and pursuit of growth in emerging markets have the effect of reducing overall risk by avoiding reliance on a small number of business areas. However, by its very nature, diversification also introduces new risks to be managed in areas of the business that are less mature and less fully understood.

To ensure the Group continues to pursue the right strategy, the Board discusses strategic issues at every Board meeting, and dedicates two full days a year to reviewing the Group’s strategy. The Executive Committee also holds specific sessions to discuss strategy on a regular basis. We have structured programmes for engaging with all our stakeholders including customers, employees, investors, suppliers, government, media and non-governmental organisations. We also invest significant resources in ensuring our strategy is communicated well and understood by the parties who are key to delivering it. The business operates a Steering Wheel – a balanced scorecard process whereby we set goals for different areas of the business and assess our overall progress on a quarterly basis – in all countries and significant business units such as Dotcom to help manage performance and deliver business strategy.

Financial strategy and Group treasury risk The main financial risks of the Group relate to the availability of funds to meet business needs, the risk of default by counterparties to financial transactions, and fluctuations in interest and foreign exchange rates. The risks associated with operating Tesco Personal Finance are covered under Financial services risks below.

The Treasury function is mandated by the Board to manage the financial risks that arise in relation to underlying business needs. The function has clear policies and operating parameters, and its activities are routinely reviewed and audited. The function does not operate as a profit centre and the undertaking of speculative transactions is not permitted. A description of the role of the Finance Committee and Internal and External Audit is set out in the Corporate Governance page.

Financial services risks Through Tesco Personal Finance PLC (formerly Tesco Personal Finance Group Limited) (TPF), the Group is subject to certain risks relating to the personal financial services industry in the UK.

TPF is subject to significant legislative and regulatory oversight. In particular, TPF is subject to supervision by the Financial Services Authority (FSA ), which has substantial powers of intervention, and is required to satisfy certain capital adequacy and liquidity ratios. If TPF is unable or fails to satisfy these ratios in the future, it could lose its licence and, consequently, its ability to transact business.

TPF is subject to various risks associated with the provision of financial services. In relation to its insurance business, TPF may experience a concentration of risks from natural or man-made disasters. In addition, market conditions may not allow TPF to purchase the amount of re-insurance it considers necessary on terms it considers acceptable. Actual claims may exceed the claims provisions that have been made on the basis of past experience. TPF’s credit card receivables and personal loan portfolio may be subject to changes in credit quality, due to a general deterioration in economic conditions or by failures in its credit assessment process, which could adversely impact its ability to recover amounts due. Furthermore, there is significant competition in the financial services industry, which could adversely affect TPF’s market share and profitability. Legal developments, changes in legal interpretation or precedent, and changes in public policy may result in new risks emerging in addition to those anticipated.

Because TPF is an FSA -regulated entity, its treasury function is run independently from the rest of the Group. TPF’s treasury risks include, in particular, liquidity risk and interest rate risk (in particular, in the interest rate margin realised between lending and borrowing costs). TPF is also subject to the risk of unexpected losses arising from operational failure, whether as a result of human error, systems failures, fraud or inadequate controls.

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