Various macro-economic, sector-specific, financial, and enterprise-related risks can impact Icelandair Group’s operations and its ability to achieve its strategic objectives. The Board of Directors is responsible for determining the Company’s risk appetite and defining policy measures to reduce exposure to financial and enterprise risk to corresponding levels. These policy measures outline the parameters and framework that need to be considered when managing risk, especially risk arising from price volatility and liquidity fluctuations. Financial risk is handled centrally for all Group companies while day-to-day operational risk is largely managed by line managers at the division level. An internal Risk Management Committee, chaired by the CEO, endeavors to reduce risk exposure to the maximum feasible extent within the Board’s policy limits. Additional risks and/or uncertainties that do not currently exist, are not presently considered material, or of which the Company is unaware, may also impair operations. The policy and measures are therefore reviewed, and modified as needed, on a regular basis.

The Company seeks to reduce the impact of fluctuations in foreign exchange rates on future cash flows through matching inflows and payments in each individual currency to the extent possible. Any mismatch is dealt with using currency trades within the Company first before turning to outside parties. The Company follows a policy of hedging 50-80% of the forecast net currency exposure 9-12 months forward. In addition to the impact on cash flow, risk exposure of this nature affects the Balance Sheet.

In recent years, the biggest currency mismatch has been an ISK deficit, the currency in which the Company´s salary expenses are payable. Due to the small size of its home market relative to overall operations ISK inflows have traditionally fallen short of covering those costs. The shortage is financed by a surplus of European currencies, most importantly the EUR and Scandinavian currencies, as well as the CAD.

In 2020, the severe disruptions brought on by COVID-19 temporarily changed both the cash flow and Balance Sheet exposure. A drastic contraction in sales, traditionally overwhelmingly denominated in foreign currencies, resulted in a temporary over-hedged foreign currency cash flow position. Consequently, the Company resolved to pause its rolling foreign exchange hedging program and no new forward contracts have been entered into since March 2020. Existing contracts were settled using cash flows paired with available reserves of currencies until Q4 2020 when the remaining forward contracts were rolled forward six months each as they became due. The Company expects to resume its regular foreign exchange cash flow hedging program once greater certainty regarding expected exposures is reached.

The ISK shortfall was managed through cash flows supplemented by sale of foreign denominated cash reserves, mainly USD throughout Q3 2020 when the Company successfully completed a share offering that raised ISK 23,000 million in new equity. The ISK short 12-month cash flow position thus shifted to a long position and ISK denominated financial assets became more dominant than before. A gradual conversion back to pre-COVID 19 exposures is assumed in the coming quarters.

The Company‘s fuel price risk management strategy aims to provide protection against sudden and significant increases in oil prices while ensuring that the Company is not disproportionally disadvantaged in the event of a substantial price fall thus mitigating volatility in both cash and the Statement of Comprehensive Income in the short-term.

The Board’s risk policy requires a hedge ratio between 40% and 60% of estimated usage 9-12 months forward and up to 20% of estimated usage 13-18 months forward. The policy allows for a mixture of swaps and options. The policy and hedge strategy further consider several supporting factors which can act to counter the fuel price risk exposure. These factors are acknowledged as hedge proxies and evaluated to some extent as substitutions for hedge contracts. Hedge strategies are subject to IFRS hedge accounting standards, but, importantly, the embedded instrument quality requirements are aligned with policy guidelines of sufficient effectiveness, reporting clarity and transparency of scenario analysis. Thus, basis risk is avoided, and hedge effectiveness sustained by the choice of instruments.

The COVID-19 outbreak wreaked havoc in the global oil markets in 2020 causing significant disruption to price formation, especially in that of jet fuel. The unprecedented cuts in capacity and a much-deteriorated business outlook, rendered a large portion of the Company’s fuel hedges ineffective.

The Company restructured its pre-COVID-19 fuel hedges in the summer of 2020. The measures involved closing out half of all then existing open fuel hedges, measured at fair value, and roll the remaining positions forward by spreading them out in line with the Company’s expected production and fuel consumption until June 2022. At the time the action presented a twofold deviation from the approved hedging policy, i.e. in terms of ratio (less than 40% or more than 60% of estimated oil usage was hedged in certain periods) and tenure (the Company entered hedge positions further than 18 months into the future). As of 31 December, the latter no longer applied. As a result of the restructuring all of the Company’s fuel hedge positions are deemed effective.

The Company follows a policy of hedging 40-80% of the interest rate exposure of long-term financing with up to a five-year horizon. Currently, foreign loans are hedged against interest rate fluctuations using fixed-rate loan contracts or swap contracts, where the floating rate is exchanged for fixed interest rates. When evaluating the interest risk exposure and the optimal level of protection, account is taken of the Company´s level of interest-bearing cash and marketable securities and various other offsetting economic factors.

Most of the Company´s funding consists of floating rate instruments. The Company did not modify its interest rate swaps in 2020 despite the considerable turbulence in financial markets.

Since the beginning of 2012 all airlines offering European destinations have been required to comply with the EU Emissions Trading Scheme (ETS), which commits them to secure carbon emission permits in proportion to their emissions of carbon.

Conventionally the Company is exposed to carbon emission price risk. Emission permits are mainly purchased using spot and forward contracts, and carbon exposure is subject to the same scrutiny and risk management as jet fuel. In terms of volume, carbon emission is a fixed proportion of the fuel consumption, but the price volatility of carbon has been greater. The consequential cash flow has however been trivial compared to that of fuel costs. Carbon prices have increased significantly in the past few years, to the extent that the procurement of emission permits can have material effects on operations. Due to the COVID-19 pandemic and subsequent capacity cuts, the free allowances provided by the ETS will materially counter the commitments for 2020.

In addition to the associated costs, minimizing the environmental impact of its operations is an important part of Icelandair Company’s business plan as an environmentally conscious company. The Company adheres to the goals IATA has set to address the global challenge of climate change and monitors fuel efficiency and CO2 emissions from flight and ground operations accordingly. Further information on Icelandair Group’s objectives in this respect can be found in the Responsibility section of the 2020 Annual Report.

Liquidity risk reflects the Company´s ability to fulfil its payment obligations associated with financial and operational liabilities when they come due. Liquidity risk management is based on a policy of minimum cash target levels deemed adequate under both normal and stressed conditions. The Company aims to maintain the level of its cash and cash equivalents and marketable securities equal to the estimated amount of three months' average fixed operating cost where 30% can be in the form of undrawn lines of credit. Cash flow requirements and their impact on cash levels are monitored by using rolling currency flow forecasts, which are updated on a regular basis.

Icelandair Group enjoyed a strong liquidity and financial position at the outset of the COVID-19 pandemic. Swift actions were nonetheless taken immediately to preserve the Company’s strong liquidity to ensure that it could withstand a prolonged period of low production. These actions included drastic capacity cuts with associated reduction in staff, organizational changes, new long-term wage agreements with production related unions, renegotiations with key lenders, lessors, credit card acquirers and vendors, including the Boeing Company, an agreement with the Icelandic government concerning a government guaranteed credit line, a share offering, and disposal of non-core assets.

In total, the agreements with creditors and vendors improved liquidity and reduced financial liabilities by USD 450 million, taking into consideration discounts, deferrals, and payment holidays. Additionally, the combined share offering, and the government guaranteed credit line added up to USD 329 million in new equity and available liquid funds, taking into consideration the warrants issued to investors that subscribed to new shares in the Offering.

At year-end the Company's cash and cash equivalents amounted to USD 118 million, and USD 42 million of marketable securities with trusted counterparties, in total USD 159 million. The Company further has access to an additional USD 172 million in revolving credit facilities whereof USD 120 million is a facility 90% guaranteed by the government. The level of cash substantially exceeds the liquidity policy given the estimated fixed operating cost associated with current production levels. Safeguarding the Company’s liquidity position continues to be the guiding light and absolute priority in the operations until demand starts to pick up.

Credit risk is dependent on the likelihood of a counterparty’s default and the loss of their financial obligations. The greatest part of the exposure is concentrated in the form of cash and cash equivalents. Secondly, there are considerable commitments through trade and other receivables from services rendered. The relative spread of claims across counterparties is a relevant factor contributing to credit risk exposure in addition to the composition of asset classes. The risk is countered by the choice of counterparties and dealt with in the accounts with allowances for impairment. The Company maintains an awareness of potential losses relating to credit risk exposure and chooses its counterparties based on business experience.

As a result of the share increase in Q3 2020 the composition of the Company’s financial assets, and thus credit risk, changed somewhat. The proceeds from the Offering, denominated in ISK, were placed in term deposits and mutual funds that invest in deposits and government bonds with rated domestic banks and asset management companies. These investments are considered low risk and fall within the agreed risk management policy.

The Company did not incur any abnormal increases in credit losses in 2020, despite the turbulent operating environment.

The Company is subject to a number of industry specific risks and uncertainties that, despite high volatility, remain principally unchanged through the years. At group and subsidiary levels, management monitors and assesses the airline industry’s risk exposure.

The year 2020 was overwhelmingly impacted by the COVID-19 pandemic and the associated travel bans, and border closures which saw demand for international travel all but wiped out. The pandemic truly stress tested all aspects of the Company’s operations and touched upon nearly every possible major operational risk category spanning everything from safety and hazard issues, labor relations, macroeconomic factors and reputational risk to flight disruptions, aircraft groundings, and storage, and regulatory issues. All while navigating unprecedented drops in revenue, massive lay-offs and re-organizing of all daily operations due to extensive government-imposed sanitation regulations and social gathering restrictions.

Factors that can be analyzed and monitored with respect to reasonable risk of occurrence and impact call for close monitoring and readily available contingency plans. Icelandair Group demonstrated its operational flexibility under these stressed conditions that truly put the Company’s contingency and business continuity plans to the test.

The Company owes its adaptive capabilities chiefly to its talented employees, contingency policies, and economies of scale. The quality of the Company’s responsive processes enables it to cope with other adverse circumstances and industry factors, such as seasonality, fierce competition, insurance and new taxes.

The Group’s organization offers to some extent a natural mitigation of business risk by means of diversification. This was indeed demonstrated in 2020 when the Group was able to act swiftly to seize opportunities that arose in its cargo and charter operations while international passenger flights were severely curtailed.

Methods of coping with threats of disruptions and disturbances are decentralized when it comes to operational hazards. The long and successful history of Icelandair Group and its companies is a valuable asset, which serves both as the foundation and the benchmark for many of the policies and contingency plans used across the Group.

Operational risks faced by the Company are inter alia related to computer and communication systems, the capabilities of key personnel, third-party services, funding and loan covenants, compliance to aviation and securities regulations, the success of its chosen strategy and business model and general market risk.

Management constantly evaluates the risks involved and the potential consequences of individual events. Scenarios are projected, charted and contemplated and action plans launched based on possible outcomes, where collaboration is maintained between the Group and its individual companies.

When properly assessed and executed, a risk management plan gives enterprises precision of methods and promptness to act upon, to decrease the immediate impact of a threat. The key objective of enterprise risk management is to enhance motivation in risk analysis and improve risk awareness, standardize the quantification of risk, and establish a risk culture that is needed to promote everyday risk awareness and risk-reduction measures.

The Company has in past years compiled a risk registry where each subsidiary has defined the most material risks facing their operations along with the estimated inherent financial value, potential consequences, and associated mitigation measures. The Company is yet to implement a formal enterprise risk management system however, a task which was planned to be developed in 2020 but was postponed due to the year’s extraordinary circumstances.