Financial stability

In 2016 the KGHM Polska Miedź S.A. Group maintained its financial stability and gearing ratios at a safe level. Market conditions resulted in the need of a balanced approach to the Group’s cash flow management. The ultimate purpose of the cash flow management policy was to ensure financing both in the short, medium and long term, so as to secure operating continuity and pursue the Group’s adopted strategy, in particular to continue capital expenditure projects which had been started.

Sales results

In total, the Group’s sales revenues amounted to PLN 19,156M in 2016 and were 4.3 per cent lower than in 2015 (PLN 852M). The drop in sales related mainly to KGHM Polska Miedź S.A. and KGHM International Ltd., where a decrease of PLN 827M and PLN 42M respectively was noted.

Total sales revenues of KGHM Polska Miedź S.A. amounted to PLN 15,112M in 2016 and were 5 percent lower than the revenues earned in 2015, mainly as a result of the drop in copper prices denominated in Polish zlotys and a lower volume of copper sales. The business stoppage in the Głogów I Copper Smelter in 2016 led to a decrease in the production of electrolytic cathodes and, as a result, in a 16 percent drop in revenues from sales of copper and copper goods compared with 2015. This drop was only partly offset with sales of copper concentrate with a value of approx. PLN 776M. Revenues from sales of silver were 8 percent higher than in 2015, and revenues from sales of gold were approx. 49 percent higher. The increase in revenues from sales of gold were caused both by the increase in quotations of gold on the exchange (denominated in Polish zlotys) and the increase in the volume of production and sales compared with 2015. Sales revenues in 2016 account for the gain on settlement of hedging instruments of PLN 3M (PLN 482M in the previous year).

In 2016 revenues of the KGHM INTERNATIONAL LTD. segment were USD 639M, which is a decrease of USD 40M (-6 percent) compared with the previous year. This was the result of lower volumes of sales of base metals and unfavorable macroeconomic conditions as reflected in the lower sales prices realized on copper and nickel. Sales revenues on copper decreased by USD 51M (-10 percent) mainly as a result of a decrease in the volume of sales of the metal of 8.7 kt (-9 percent). Lower realized copper sales prices which in 2016 amounted to USD 5,004 per tonne compared with USD 5,071 per tonne in 2015 also had a negative impact on the level of revenues. The increase in sales of precious metals of USD 10M (+11 percent) was derived from higher realized sales prices of gold (+14 percent), palladium (+13 percent) and platinum (+8 percent).

C1 cost position

In 2016, C1 costs, i.e. the cash costs of production of payable copper, which include extraction and processing costs of the mined materials, tax on minerals, transport costs, administrative expenses relating to the mining stage, and processing premium of the smelting and refining (TC/RC), net of the value of by-products of the Group compared to the amount of payable Cu sold, were 11 percent lower than in 2015.

C1 cost of the Group’s copper concentrate production

USD/pound
2016
2015
Change
Percentage change
Group
1.41
1.59
(0.18)
(11)
- KGHM Polska Miedź S.A.
1.30
1.47
(0.17)
(12)
- KGHM INTERNATIONAL LTD.
1.63
1.87
(0.24)
(13)
- Sierra Gorda S.C.M.
1.96
2.58
(0.62)
(24)

Sources: KGHM

The C1 cost of KGHM Polska Miedź S.A.’s copper concentrate production was USD 1.47 per pound in 2015 and USD 1.30 per pound in 2016. The deterioration of the PLN exchange rate against the US dollar (C1 costs in 2016 translated according to the USD/PLN exchange rate and according to metal quotations from 2015 would amount to USD 1.50 per pound) and the 4.6 percent higher content of silver in own concentrates had an impact on the cost levels.

However, in the KGHM INTERNATIONAL LTD. segment, the weighted average cash cost of copper production for all transactions in 2016 amounted to USD 1.63 per pound, which is a decrease of 13 percent compared with 2015. The decrease in C1 costs results from the savings initiatives undertaken, which translated into a reduction in production costs, which was partly offset by the decrease in the copper sales volume.

In the Sierra Gorda S.C.M. segment, the unit cash cost of copper production (C1) decreased from USD 2.58 per pound in 2015 to USD 1.96 per pound in 2016. The significant drop in the C1 costs in Sierra Gorda compared to 2015 is the effect of incomparability between the periods (C1 costs in 2015 are presented for the period from the start of production at a commercial level in July).

EBITDA and net loss

Adjusted EBITDA amounted to PLN 4,666M and was PLN 44M (1 percent) lower than in 2015. Net loss amounted to PLN 4,449 M in 2016 and was PLN 560M lower than in 2015.

The Group’s sales revenue, EBITDA and net profit in 2015 and 2016

Source: KGHM Polska Miedź S.A.

Adjusted EBITDA of the KGHM Polska Miedź S.A. segment amounted to PLN 3,551M in 2016, which is a 15 percent drop compared with the level recorded in the previous year (EBITDA of PLN 4,163M). The deterioration of the operating profit is the result of lower copper price quotations which were partly offset with the USD/PLN foreign exchange rate which was more favorable for the Parent Company. Launching the flash furnace in place of the previous shaft furnace in the Głogów I Copper smelter was also a significant event which led to a temporary reduction in production, causing the production volume, and therefore also the revenue from sales of copper and silver to drop. This drop was offset to some extent by sales of copper concentrate (169 kt of dry weight). Additionally, in 2016 the adjustment for settlements of hedging transactions which increase revenues was PLN 479M lower than that recorded in 2015, which was mainly the result of a lower volume of hedging transactions settled during the period. The result of the above factors was a drop in sales revenues of PLN 827M compared with 2015. Costs of the Company’s core operations did not change significantly and amounted to PLN 12,517M. In 2016 write downs of assets of PLN 6,197M had a decisive impact on the results of the Parent Company. They included write-downs of shares in subsidiaries of PLN 4,856M and write-downs of loans granted of PLN 1,130M. In effect, net loss of the segment amounted to PLN 4,085M, which is a drop in the result of PLN 1,297M compared with 2015.

In 2016 adjusted EBITDA of the KGHM International Ltd. segment amounted to PLN 614M, and increased by PLN 245M compared with the previous year. The reduction in the costs of core operations, including those resulting from savings initiatives, had an impact on the improvement in the segment’s operating results. In 2016 the segment’s net loss of PLN 6,828M was partly the effect of recognizing the loss on measurement of assets, impairment write-down of the value of Sierra Gorda S.C.M. and an impairment write-down of the loan granted to Sierra Gorda S.C.M.

In 2016 adjusted EBITDA of Sierra Gorda amounted to USD 87M, i.e. PLN 344M, of which PLN 189M can be ascribed to the KGHM Group, in proportion to the shares held in the Company (55%). However, we have to emphasize that the results for 2015 only relate to the second half of the year, i.e. to the period when commercial production started. Additionally, in 2016 the Company continued operations aimed at stabilizing the technological parameters for processing the ore and producing concentrate, including in particular molybdenum, the extraction volume of which was below expectations. The segment noted a net loss of PLN 6,015M (constituting 55 percent of the total loss of Sierra Gorda S.C.M.). The main factor which had an impact on the Company incurring a net loss was the impairment write-down of non-current assets. In proportion to the interests held in the Company, the write-down amounted to PLN 6,728M before tax and PLN 4,874M net respectively. Another factor was interest accrued on the loans granted by the owner as part of the funds for the construction of the mine.

Gearing

In 2016 the Group had open credit lines which fully secured its liquidity requirements, up to a total available amount of PLN 15.78bn, of which PLN 8.102bn was used as at December 31, 2016.

In the long term, financing was secured with a syndicated loan of USD 2.5bn, i.e. PLN 10.448bn and an investment loan granted by the European Investment Bank of PLN 2.0bn. In the short and medium term, current liquidity and effective working capital management are supported by bilateral bank loans up to the amount of PLN 3.330bn, of which the Group used PLN 1.609bn as at December 31, 2016.

In 2016 the KGHM Polska Miedź S.A. Group has been actively managing working capital in the area of receivables, inventories and liabilities, using non-recourse factoring services and gradually extending payment terms for deliveries or services, in accordance with the trend observed in the mining industry.

One of the more important events in 2016 was extending the availability of the unsecured renewable syndicated loan for another year. The unsecured renewable syndicated loan agreement for USD 2.5bn was concluded in 2014 with a banking syndicate for five years, with the option to renew it for a further two years, one year and two years after its conclusion. In 2016 KGHM Polska Miedź S.A. obtained the consent of the banks which participated in the syndicate to extend the repayment of the loan by another year, in the full amount. The consent granted by the Banks for extending the availability of funding attests to the positive opinion on the creditworthiness of the KGHM Group. Currently, the loan matures on 9 July 2021.

The Group’s total debt following from its loans and borrowings amounted to PLN 8.075bn as at December 31, 2016 and increased by PLN 1.095bn compared with 2015 (a 16 percent increase). Simultaneously, the structure of long-term liabilities to short-term liabilities improved, as a result of the increase of the share of long-term liabilities in total debt from 69 percent to 81 percent.

Group debt arising from credit loans and other sources of financing as at December 31, 2016

PLN M
2016
2015
Change
Percentage change
Long-term liabilities
6,531
4,850
1,681
35
bank loans
4,889
3,674
1,215
33
borrowings
1,642
1,176
466
40
Short-term liabilities
1,544
2,130
(586)
(28)
bank loans
1,502
2,124
(622)
(29)
borrowings
42
6
36
x7
Total
8,075
6,980
1,095
16

Source: KGHM Polska Miedź S.A

To maintain its financial liquidity and creditworthiness in the long term the Group strives to maintain own capital ratio at a level no lower than 0.5, and the net debt to EBITDA ratio at a level of up to 2.0.

As at December 31, 2016 the Group’s net debt to EBITDA ratio was 1.6. This level attests to the Group maintaining its gearing at a safe level and singles it out from the rest of the mining industry.

The financial results for 2016 confirm the Group’s full capability of meeting its payment liabilities on loan agreements.

As at December 31, 2016 the Group identified premises for conducting asset impairment tests. The tests confirmed the reasonableness of the write-downs of the loan granted to Sierra Gorda S.C.M. and the impairment of foreign assets. The write-downs are of a non-cash nature and have no impact on the liquidity position of the KGHM Polska Miedź S.A. Group.

Capital expenditure

KGHM Polska Miedź S.A. segment

In 2016 KGHM Polska Miedź S.A.’s expenditure on non-current assets amounted to PLN 2,624M and was 1 percent lower than in the previous year. This expenditure plus the expenses on development works in progress amounted to PLN 2,630M.

Structure of expenditures on property, plant and equipment and intangible assets of KGHM Polska Miedź S.A. (in PLN million)

PLN M
2016
2015
Change
Percentage change
Mining
1,164
1,479
(315)
(21)
Metallurgy
1,435
1,115
320
29
Other operations
25
61
(36)
(59)
Development work in progress
6
18
(12)
(67)
Total
2,630
2,673
(43)
(2)
- including borrowing costs
90
57
33
58

Źródło: KGHM Polska Miedź S.A.

Capital expenditure activities consisted of replacement projects aimed at maintaining the production assets in a non-deteriorated condition (18 percent of total expenditure incurred), maintenance projects aimed at maintaining the mining production at a level predetermined in the approved production plan (12 percent of total expenditure incurred) and development projects aimed at increasing the volume of the technological line production, implementing technical and technological actions to optimize the use of the existing infrastructure, maintain production costs at the required level and adapt the Company’s operations to the changing standards, legal norms and regulations (70 percent of total expenditure incurred).

KGHM INTERNATIONAL LTD. segment

In 2016, capital expenditure of the KGHM INTERNATIONAL LTD. segment amounted to PLN 108M, i.e. they decreased by USD 182M (-63%) compared with the previous year.

Approx. 50% of all expenditure was incurred in the Robinson mine and related mainly to pre-stripping work, developing the tailings storage facility, maintaining infrastructure and environmental projects.

In 2016 the KGHM INTERNATIONAL LTD. segment expended USD 37M on projects, of which USD 21M was related to the Victoria project, USD 8M related to the Ajax project and USD 8M was incurred on the Sierra Gorda Oxide project. Analyses necessary to decide on the continuation of the projects are in progress.

Capital expenditure of KGHM INTERNATIONAL LTD. (US M)


2016
2015
Change (%)
Q4’16
Q3’16
Q2’16
Q1’16
Victoria Project
21
62
-66.1%
1
2
2
16
Sierra Gorda Oxide Project
8
17
-52.9%
1
0
2
5
Pre-stripping and other72
167
-56.9%
12
14
25
21
Ajax Project
8
44
-81.8%
1
1
3
3
Total
108
290
-62.8%
14
16
33
45

Source: KGHM

Sierra Gorda S.C.M. segment

In 2016 expenditure on property, plant and equipment and on intangible assets in Sierra Gorda S.C.M. amounted to USD 268M of which 70% comprised expenditure related to making consecutive segments of the deposit available for mining. The significant drop compared to a similar period of the previous year results from the fact that in the first half of 2015 the mine was still under construction. Also, in 2015 the scope of works related to making the deposit available for mining was larger.

Capital expenditure (2015 – amounts per full year) Sierra Gorda S.C.M.


2016
2015
Zmiana (%)
IVQ’16
IIIQ’16
IIQ’16
IQ’16
Expenditure on property, plant and equipment (USDM)
268
527
-49.1%
57
49
49
113
Expenditure on property, plant and equipment (PLNM)
1,065
2,034
-47.6%
234
193
191
447
Expenditure on property, plant and equipment - segment (55% stake) (PLNM)
586
1,119
-47.6%
129
106
105
246

Source: KGHM

Anticipated position in 2017

In 2017 the Company assumes that copper mining production will be similar to the previous year and that the silver concentrate mining production will be 4 percent lower. The smelting production is planned to increase by 3 percent in respect of electrolytic copper and silver by 1 percent, which is the result of the relatively low level of production in 2016 caused by the change in production technology in the Głogów Copper Smelter.

The planned sales volume of copper and silver is 4 percent and 10 percent lower, respectively, than that achieved in 2016 due to the need to transfer to customers 15 kt of cathodes produced from third party copper concentrate under a processing service and 47 t of silver.

Lower commercial production is partly offset by the planned reduction in inventories of finished goods at the end of 2017 – copper goods to 15 kt of Cu, i.e. by 7 kt compared with the end of 2016.

The cost of manufacturing electrolytic copper increased mainly due to the higher tax on mining some minerals and higher labor, depreciation, technological materials and external services costs.

The Company plans to reduce expenditure on property, plant and equipment by 20 percent in 2017 as a result of reducing expenditure on development (mainly related to the Pyrometallurgy Modernization Program). Capital expenditure planned in 2017 is related mainly to continuing financial support for foreign companies (KGHMI INTERNATIONAL LTD. and Sierra Gorda S.C.M.).