Description of the opportunity and risk situation

METRO has numerous opportunities to ensure a sustainable positive development of its business. On the other hand, there are risks that could impact us in reaching our goals. We have allocated the METRO opportunity and risk portfolio to various subject groups. The Management Board of METRO AG identified and assessed the following risks which are considered to be particularly relevant for METRO. They are listed in the following overview:

The risk ‘Employee development and attractiveness as an employer’ reported in the previous year has decreased from METRO's point of view and was no longer listed for reasons of materiality. Risk no. 3 ‘sustainability risks’ was newly included. Risk no. 9 ‘risks in connection with the disposal of Real’ was reported together with risk no. 8 in the previous year and will be listed individually this year.

Opportunities and risks related to the business environment

Opportunities from the development of business and political conditions

An improvement in the economic and political environment worldwide or in countries where METRO is present, as well as improvements in free trade, could have a positive impact on sales, costs and earnings. METRO operates in a large number of markets where we could potentially benefit from this development. Opportunities could arise from a sustained positive geopolitical and macroeconomic development, among others in Southern Europe and Turkey – for example, in the form of a recovery of foreign exchange rates.

Macroeconomic and political risks (#1)

As a company with global operations, METRO depends on the political and economic situations in the countries in which it operates. The fundamental business environment can change rapidly. Changes in political leadership, civil unrest, terrorist attacks or economic imbalances can jeopardise METRO’s business. At the country level, the political and/or economic situations in Russia, Ukraine and Turkey are particularly noteworthy for the reporting period. In contrast to the previous year, the political situation in individual markets has stabilised. For this reason, the assessment of the potential extent of damage was adjusted from ‘significant’ in the previous year to ‘moderate’. The potential risks include the loss of property and real estate assets, changes in the exchange rate, product restrictions, capital controls, regulatory restrictions and unexpected weakening of demand. The global economy is increasingly marked by tense trade relations between the US, Europe and China, as can be clearly seen in the expansion of the imposed punitive tariffs, as well as the planned withdrawal of the United Kingdom from the European Union (Brexit). We see both issues as a risk. In this case, we consider the materialisation of risks in connection with tense trade relationships to be more probable than in the previous year and assess the probability of occurrence as ‘possible’ rather than ‘low’. A continuous monitoring of the economic and political developments and a review of our strategic objectives allow us nonetheless to respond to these challenges in a timely and appropriate fashion. Our international presence comes with the advantage of being able to balance the economic, legal and political risks as well as fluctuations in demand between the countries.

Interruption of business activities (#2)

Our business operations could, for example, be interrupted by a failure of IT systems, natural disasters or pandemics. Important business processes such as purchasing/product ordering, marketing and sales rely on IT systems. Systems for online retailing must be continuously available, as these systems are a prerequisite for unlimited access outside normal store opening times. As a result, the continuous availability of the infrastructure is a critical factor in the development and implementation of our IT solutions. Systems that are essential for business operations in the stores, especially checkouts, are largely self-contained and can continue to be used for some time even during events such as network failures or the failure of central systems. In case of partial network failures, they can automatically reroute data or switch to redundant routes.

Modern technologies such as remote server management and cloud computing allow us to use our hardware efficiently. In addition, our centralised IT systems can be quickly restored in the event of one or several servers failing. We operate several central IT centres, which enables us to compensate for major business interruptions or limit their duration to the absolute minimum. We also have a disaster recovery plan to restore IT centres in Germany after extended outages (for example outages caused by fire, natural disasters or criminal actions).

We also prepare ourselves for the risk of an interruption of our business activities by employing a comprehensive business continuity management system. A professional crisis management allows for a rapid crisis response and thereby ensures the protection of our employees and customers. This includes evacuation plans, training measures and specific instructions. We insure ourselves against the loss of tangible assets and any impending loss of revenues or profits resultant from business interruptions wherever it is possible and reasonable.

Environmental opportunities and risks

Opportunities from competitive advantage

Our company is more exposed than ever to economic, environmental, social and cultural challenges. Similarly, we experience that sustainability is the key to transforming these challenges into opportunities. METRO operates an active sustainability management system in order to enshrine sustainability systematically and organisationally in its core business. Our stakeholders evaluate the measures implemented by us, for example, through ratings. In financial year 2018/19, METRO dropped to second place in the Food & Staples Retailing group in the internationally important Dow Jones Sustainability Index World after 4 consecutive years as the best in the industry. In the Dow Jones Sustainability Index Europe, we were ranked best in the industry for the 5^th consecutive year.

Sustainability risks (#3, NEW)

The consumption of energy and other natural resources affects our operating costs and may have a negative impact on the environment, for example through the emission of climate-damaging greenhouse gases. This risk was included for the first time in comparison with the previous year, as the risks from increased energy prices following a possible CO₂ pricing are assessed as probable for the first time. The climate target previously defined by METRO, which was expanded by the supply chain in 2019, will help to minimise this risk.

Sector-specific opportunities and risks

Retail business

Opportunities from innovations and digitalisation

METRO is focused on identifying and addressing current and future challenges of its customers at an early stage in a constantly changing environment. In this case, innovations and digitalisation are areas with excellent potentials for realising increases in value. We are convinced that the consistent implementation of innovative ideas relating to the progressing digitalisation will increasingly shape the future of the wholesale and retail industry. This may give rise to new business models, which in turn may present a variety of opportunities.

In order to exploit the opportunities derived from digitalisation and to realise synergies, we are bundling our digitalisation initiatives with the business units Hospitality Digital and METRO-NOM. The focus on the core customer groups HoReCa and Traders is a key component of our digitalisation strategy, which we use to provide our customers with digital solutions such as the DISH (Digital Innovations and Solutions for Hospitality) platform. By establishing the Hospitality Digital business unit, we have prepared ourselves to take advantage of significant opportunities that may arise when the digitalisation of the HoReCa and Traders sectors and other business areas advance faster than expected. With our METRO-NOM business unit, we continue to digitalise our core business. METRO-NOM supports, develops and optimises all digital solutions used by our customers. Our METRO Accelerator powered by Techstars programme is a cooperation project with the US-based company Techstars and allows us to monitor global consumer trends and to promote digital solutions for the hospitality and retail segments offered by innovative start-up companies.

Opportunities from customer focus

Customer focus and customer satisfaction are central elements of our strategy. In order to continuously measure and consistently improve customer satisfaction, we have implemented the Net Promoter Score across the board in all 24 national subsidiaries in which METRO is represented with wholesale stores. Besides the purely quantitative measurement of the current satisfaction values, suggestions from customers can be systematically recorded and evaluated. This will allow further potential for improving the shopping experience and supply as well as general consumer trends to be identified. In line with our omnichannel strategy, we are expanding our delivery sales and fortifying our online activities. With Wholesale 360, our goal is to become the partner of choice for our customers by offering METRO solutions that cover all aspects of their business. We are also intensifying our competitive analyses. Our various strategic projects aim at further improving our purchasing and sales processes and at creating additional value for our customers. The goal is to ensure the impairment of assets and thereby mastering the challenges faced by our business model. As a wholesale specialist, we want to further increase our customer focus, accelerate our growth, simplify our structures and increase the implementation speed. We are thus striving to increase our overall operating performance.

Challenges in the business model (#4)

Particularly, the retail and wholesale trade in the markets in which we operate is characterised by rapid changes and fierce competition. A fundamental risk is consumers’ fluctuating propensity to consume. Changes in consumer behaviour and customer expectations pose additional risks, among others, in the face of demographic change, rising competition and increasing digitalisation. If we fail to adequately address our customers’ needs and price developments or if we miss trends with regard to our assortments or appropriate sales formats and new sales channels, this could potentially impede the development of our sales and income and also jeopardise our objectives in terms of growth and profitability. We address these risks by developing country-specific customer-focused value creation plans. The operating partners and international working groups (federations) monitor and support the implementation and achievement of objectives.

Real estate

Opportunities from increase in value

We see potential for value increases in possible development projects for our existing real estate assets and other properties as well as in improved facility management.

Real estate risks (#5)

Loss of rental income caused by insolvencies of third-party tenants and the risk of vacant and unused selling space entail the risk of a deficient rental cover or an impairment of the underlying asset. We counter these risks with our strategic and operational real estate management and anticipatory investment planning. Delayed repair and maintenance work could lead to infringements and quality losses as well as reputational damage. The safety and health of customers, suppliers and employees could be endangered by deficiencies in the properties. We take decisive actions to prevent potential accidents and damage to health, thus ensuring a safe and healthy environment. Accordingly, we establish clear rules and procedures to identify, minimise and ultimately prevent risks. We support implementation through frequent training sessions and internal inspections.

Opportunities and risks relating to business performance

Suppliers and products

Opportunities from responsible trading

Not only for us, but also for more and more customers the environmental and social sustainability of the products we offer and their production process play an increasingly important role, in addition to quality and safety. We aim to ensure socially acceptable working conditions within our sourcing channels. For this purpose, METRO adopted a group-wide purchasing policy for a sustainable supply chain and procurement management that applies to all products.

Quality risks (#6)

As a retail company, METRO depends on external producers and service providers. Defective or unsafe products, exploitation of the natural environment, inhumane working conditions or infringements against our compliance standards could potentially cause major damage to the reputation of METRO and pose a lasting threat to the company’s success. We therefore continuously audit our own-brand suppliers to assess their adherence to METRO’s stringent procurement and compliance standards. These include the food safety and quality standards recognised by the Global Food Safety Initiative (GFSI), such as the International Food Safety Standard and the GLOBALG.A.P. certification for agricultural products. They contribute to the safety of foods on all cultivation, production and sales levels. Own-brand suppliers without a recognised and valid audit certificate may qualify for preliminary inclusion in METRO’s supplier base by undergoing and passing a special assessment (METRO Assessment Solution) conducted by an accredited certification body. Violations of conditions can lead to exclusion from our supplier network or, in the case of unacceptable production methods, to a product being blacklisted. If suppliers do not provide a corresponding certificate, it jeopardises the due diligence of METRO towards the customer. Potentially of placing non-safe products on the market which are unsuitable for human consumption or use or even health-hazardous represents a very high reputation risk and comprises the threat of lasting damage to customer relationships. Should a quality incident occur despite these measures, the process steps for resolving interruptions and incidents described in our manual will set out the procedure to react to the incident in the interest of our customers. We also continuously evaluate potential improvements to our quality assurance systems.

Financial opportunities and risks

Planning reliability (#7)

Unexpected deviations from the budget or the outlook could potentially result in METRO missing its budget targets and making wrong business decisions. This could lead to unexpected negative financial consequences. We therefore place high priority on measures designed to mitigate these risks. In order to minimise risks, we are consistently implementing strategic measures that are directed at improving our income position. We support the operational units in their pro-active implementation of the strategy by providing them with value creation plans. We also mitigate risks by conducting effective internal controls, a closer interlocking of strategic planning and the budgeting process as well as greater involvement of the supervisory bodies. The fact that our financial year differs from the calendar year allows us a high degree of planning certainty at an early stage, with the profitable Christmas quarter being the first quarter of our financial year. The outlook report offers insights into our expectations for the development of our business in the coming financial year.

Other opportunities and risks

Opportunities from portfolio simplification and efficiency improvements

The focus on the wholesale business made further progress in financial year 2018/19 with the decision to sell the hypermarket business and to sell 80% of the majority interest in METRO China. In doing so, METRO is focusing its attention on investments aimed at strengthening its wholesale businesses in order to secure increased market shares in the rapidly growing HoReCa environment. The focus on wholesale could be translated faster than expected into improved workflows along the value chain and could have a positive effect on our business development through an increase in operating efficiency.

In addition to focusing on the wholesale business, joint ventures such as the one between METRO and Wumei in China as well as expansion of additional cooperations can lead to further innovations or operational cost savings.

Opportunities from company acquisitions

Great potential for increases in value may arise from the acquisition of selected companies, particularly in business segments of strategic importance. We see opportunities in the further development of our delivery business and in reinforcing our B2B e-commerce activities. The existing minority interests held by METRO offer the opportunity for additional increases in value if, for example, start-up companies were to develop faster and better than expected. We also want to solidify and expand the leading position our company has already attained in numerous markets. Weaker market players in countries where the macroeconomic situation has deteriorated are retreating from the market. Our goal there is to gain market share and, where appropriate, to take over individual locations and thus further advance market consolidation.

Risks from completed transactions (#8)

The demerger of the former METRO GROUP was concluded on 13 July 2017 with the initial listing of METRO AG shares on the stock exchange. The former METRO GROUP has split into a wholesale specialist (the new METRO AG) and a company focused on consumer electronics and services (CECONOMY AG, formerly METRO AG). The demerger may be subject to additional legal risks, adding to the tax risks inherent in the implementation; in detail, these risks are:

• Prospectus liability, for example claims by shareholders from share trading due to inadequate information
• Continuing liability for all liabilities of CECONOMY AG existing as of the effective date of the demerger/spin-off for a period of 5 years
• Liability risks stemming from legal claims by shareholders of the former METRO AG in relation to the demerger, for which METRO AG has agreed to absorb the costs under the demerger agreement.

We are preparing for any potential complaints by way of legal defence strategies. Potential claims resulting from prospectus liability are covered by a prospectus insurance policy. We are continuously monitoring the financial position of CECONOMY AG.

In order to increase transparency, we now present this risk and risk no. 9 ‘risks in connection with the disposal of Real’ separately.

Risks associated with the disposal of Real (#9, NEW)

In connection with the sale of the hypermarket business, the risks mainly relate to remnant costs which will continue to be incurred after the sale of Real but which will not be fully reflected in the operating performance of the continuing operations. An example of residual costs is the temporary underutilisation of METRO LOGISTICS. Furthermore, there is the risk of potentially lower-than-expected sales proceeds, which would necessitate further write-downs on the hypermarket business. In the consolidated financial statements as of 30 September 2019, impairment losses of €401 million on the hypermarket business disposal group were already recognised; this was taken into account accordingly in the risk assessment. To limit risks, METRO uses professional support from investment banks and external consultants in the marketing process.

Information technology

Opportunities from master data

A reliable basis with regard to data quality leads to an improved understanding of customer needs and thus offers great potential for opportunities. Among other things, digital solutions from Hospitality Digital (online reservation tool, internet presence) generate master data that contribute to the data basis. To seize these opportunities, METRO is developing an end-to-end master data management system to ensure data reliability. This system is supposed to be established in the sales channels in the future.

Legal and tax risks

Trade regulations (#10)

The European Union and national governments are increasingly adopting or amending regulations that regulate trade and unfair trading practices that could affect our business. The EU directive on unfair trading practices went into force in April 2019 and must be adopted into national law by April 2021. Further restrictions of local law are expected in EU countries in this context. Compared to the previous year, the risks from this are assessed as ‘probable’ instead of ‘possible’. Among other things, the European Parliament is discussing the proposal to ban procurement partnerships. In the Corporate Public Policy department, we collect, discuss and analyse important social, regulatory and political issues in order to represent our interests at the political level through responsible lobbying.

More stringent regulation pertaining to deferred compensation (#11)

In addition to purchase price agreements, we enter into agreements on so-called subsequent compensation with the suppliers. These agreements are concerned with purchasing terms and conditions, such as product-specific deferred rebates, reimbursement of expenses or remuneration for services, such as advertising or other marketing-related services.

For the last few years, we have observed that agreements on subsequent compensation between buyers and suppliers have been subjected to increased regulatory restrictions. This is mainly the case in the Eastern European countries, but has also been observed in other METRO countries, for example in the European Union. Russia, in particular, is affected by a decline in subsequent compensation. Some restrictions sometimes prohibit individual conditions. At the same time, antitrust law is used to regulate conditions to the detriment of retailers, as it is presumed that they have market power.

We continuously and systematically monitor the risks arising from increasing regulation regarding subsequent compensation. We address these regulation trends in a preventative approach by permanently adjusting our contractual relationships with suppliers in the concerned jurisdictions and/or in relation to certain product categories. This allows us to ensure that any subsequent benefit arrangement complies with the applicable laws at all times. We also take care to appropriately provide for the respective limitation periods under civil law. We analyse the historical structures of supplier terms and conditions in the context of a transformation programme spanning over a number of years and modernise the terms as required. Without active management, there would be a risk that added value in the form of subsequent compensation in selected product groups and/or countries could no longer or only partially be collected as a result of changes to the regulatory framework. This would have a corresponding impact on the total comprehensive income of our company.

Tax risks (#12)

Tax risks can primarily arise in relation to the assessment of financial matters by the tax authorities (including transfer price issues). Additional risks may result from differing interpretations of sales tax (VAT) regulations. In addition, possible impairments on deferred tax assets in METRO AG may have a negative impact on the group tax rate.

In order to identify and minimise tax risks at an early stage, METRO AG has issued a group tax guideline, which is continuously monitored by the Corporate Group Tax department to ensure that it is up to date and properly implemented. These risks are regularly and systematically examined. The resultant risk mitigation measures are then coordinated between all persons involved. Moreover, an internal control system for the sales tax process was established and already implemented for German companies, which is supposed to be expanded to other national companies.