POLISH FINANCIAL SUPERVISION AUTHORITY

Annual report RR 2020

(in accordance with § 60 sec. 1 point 3 of the Decree regarding current and periodic information)

for issuers of securities involved in production, construction, trade or services activities

for the financial year 2020 comprising the period from 1 January 2020 to 31 December 2020 containing the financial statements according to International Accounting Standards in PLN.

Publication date: 24 March 2021

PricewaterhouseCoopers Polska Spółka z ograniczoną odpowiedzialnością Audyt Sp.k.

 (auditing company)

*Exchange rates are the arithmetical average of the current average exchange rates announced by the National Bank of Poland on the last day of each month respectively of 2020 and 2019

Polish Financial Supervision Authority

Table of contents

STATEMENT OF PROFIT OR LOSS. 5

STATEMENT OF COMPREHENSIVE INCOME. 5

STATEMENT OF CASH FLOWS. 6

STATEMENT OF FINANCIAL POSITION.. 7

STATEMENT OF CHANGES IN EQUITY.. 8

PART 1 – General information.. 9

PART 2 – Operating segments and information on revenues. 13

PART 3 – Impairment of assets. 20

Note 3.1 Impairment losses on assets as at 31 December 2020. 20

Note 3.2 Impairment losses on assets as at 31 December 2019. 26

PART 4 – Explanatory notes to the statement of profit or loss. 32

Note 4.1 Expenses by nature. 32

Note 4.2 Other operating income/(costs) 33

Note 4.3 Finance income/(costs) 34

Note 4.4 Reversal / recognition of impairment losses on assets in the statement of profit or loss. 35

PART 5 – Taxation.. 36

Note 5.1 Income tax in the statement of profit or loss. 36

Note 5.2 Other taxes and charges. 41

Note 5.3 Tax assets and liabilities. 41

PART 6 – Investments in subsidiaries. 43

Note 6.1 Subsidiaries. 43

Note 6.2 Receivables due to loans granted. 45

PART 7 – Financial instruments and financial risk management. 48

Note 7.1 Financial Instruments. 48

Note 7.2 Derivatives. 56

Note 7.3 Other financial instruments measured at fair value. 59

Note 7.4 Other non-current financial instruments measured at amortised cost 60

Note 7.5 Financial risk management 60

PART 8 – Borrowings and the management of liquidity and capital 82

Note 8.1 Capital management policy. 82

Note 8.2 Equity. 83

Note 8.3 Liquidity management policy. 86

Note 8.4 Borrowings. 89

Note 8.5 Cash and cash equivalents. 93

Note 8.6 Liabilities due to guarantees granted. 94

PART 9 – Non-current assets and related liabilities. 96

Note 9.1 Mining and metallurgical property, plant and equipment and intangible assets. 96

Note 9.2 Other property, plant and equipment and intangible assets. 101

Note 9.3 Depreciation/amortisation. 103

Note 9.4 Provision for decommissioning costs of mines and other facilities. 103

Note 9.5 Capitalised borrowing costs. 104

Note 9.6 Lease disclosures – The Company as a lessee. 104

Note 9.7 Non-current assets held for sale and liabilities associated with them... 105

PART 10 – Working capital 106

Note 10.1 Inventories. 106

Note 10.2 Trade receivables. 107

Note 10.3 Trade and similar payables. 108

Note 10.4 Changes in working capital 110

PART 11 – Employee benefits. 113

Note 11.1 Employee benefits liabilities. 114

Note 11.2  Changes in liabilities related to future employee benefits programs. 115

PART 12 – Other notes. 118

Note 12.1 Related party transactions. 118

Note 12.2 Dividends paid. 119

Note 12.3 Other assets. 119

Note 12.4 Other liabilities. 120

Note 12.5 Assets and liabilities not recognised in the statement of financial position. 120

Note 12.6 Capital commitments related to property, plant and equipment and intangible assets. 121

Note 12.7 Employment structure. 121

Note 12.8 Other adjustments in the statement of cash flows. 121

Note 12.9. Remuneration of key managers. 122

Note 12.10 Remuneration of the entity entitled to audit the financial statements and of entities related to it  (in PLN thousands) 124

Note 12.11 Disclosure of information on the Company’s activities regulated by the Act on Energy. 124

Note 12.12 Information on the impact of COVID-19 on the Company’s operations. 131

Note 12.13 Subsequent events. 133

PART 13 - Quarterly financial information of KGHM Polska Miedź S.A. 134

STATEMENT OF PROFIT OR LOSS. 134

Explanatory notes to the statement of profit or loss. 135

Note 13.1 Expenses by nature. 135

Note 13.2 Other operating income/(costs) 136

Note 13.3 Finance income/(costs) 137

STATEMENT OF PROFIT OR LOSS

STATEMENT OF COMPREHENSIVE INCOME

STATEMENT OF CASH FLOWS

STATEMENT OF FINANCIAL POSITION

STATEMENT OF CHANGES IN EQUITY

Note 1.1 Corporate information

KGHM Polska Miedź S.A. (“the Company”) with its registered office in Lubin at 48 M.Skłodowskiej-Curie Street is a joint stock company registered at the Regional Court for Wrocław Fabryczna, Section IX (Economic) of the National Court Register, entry no. KRS  23302, on the territory of the Republic of Poland.

KGHM Polska Miedź S.A. has a multi-divisional organisational structure, comprised of a Head Office and 10 divisions:

3 mines (Lubin Mine Division, Polkowice-Sieroszowice Mine Division, Rudna Mine Division), 3 metallurgical plants (Głogów Smelter/Refinery, Legnica Smelter/Refinery, Cedynia Wire Rod Division), the Concentrator Division, the Tailings Division, the Mine-Smelter Emergency Rescue Division and the Data Center Division.

The shares of KGHM Polska Miedź S.A. are listed on the Warsaw Stock Exchange.

The Company’s principal activities include:

–      the mining of copper and non-ferrous metals ores; and

–      the production of copper, precious and non-ferrous metals.

KGHM Polska Miedź S.A. carries out copper ore mining activities based on concessions given for specific mine deposits, and also based on mining usufruct agreements and mine operating plans.

KGHM Polska Miedź S.A. is a parent entity of the KGHM Polska Miedź S.A. Group (“Group”).

The financial statements were prepared under the assumption of continuing as a going concern during a period of at least 12 months from the end of the reporting period in an unaltered form and business scope, and there are no reasons to suspect any intentional or forced discontinuation or significant limitation of its current activities. As at the date of signing of the financial statements the Management Board is not aware of any facts or circumstances that may cast doubt about the going concern in the foreseeable future.

The pandemic’s impact on individual aspects of the business and the going concern assumption are described in note 12.12.

Declaration by the Management Board on the accuracy of the prepared financial statements

The  Management Board of KGHM Polska Miedź S.A. declares that according to its best judgement the annual financial statements for 2020 and the comparative data have been prepared in accordance with accounting principles currently in force, and give a true, fair and clear view of the financial position of KGHM Polska Miedź S.A. and the profit for the period of the Company.

The Management Board’s report on the activities of KGHM Polska Miedź S.A. and of the KGHM Polska Miedź S.A. Group in 2020  presents a true picture of the development and achievements, as well as the condition, of KGHM Polska Miedź S.A. and the KGHM Polska Miedź S.A. Group, including a description of the basic exposures and risks.

The financial statements were authorised for issue and signed by the Management Board of the Company on

23 March 2021.

Note 1.2 Basis of preparation

These financial statements have been prepared in accordance with International Financial Reporting Standards as adopted by the European Union, on the basis of historical cost, except for financial instruments classified as measured at fair value.

The accounting policies described in this note and in individual notes were applied by the Company in a continuous manner for all presented periods.

Note 12.12 of these financial statements contains information on the Company’s activities regulated by the Act on Energy, pursuant to article 44 section 2 of the Act dated 10 April 1997.

For a greater understanding of the data recognised in the financial statements, an accounting policy and important estimates, assumptions and judgments are presented in individual, detailed notes as in the table below. As compared to the periods ended on 31 December 2019 and 30 June 2020, there were no significant changes to  the measurement methods. Changes in estimates as at 31 December 2020 as compared to the aforementioned periods arise from changes in assumptions as a result of changes in business circumstances and/or other variables.

* Amounts include data on long-term and short-term loans, in the statement of financial position short-term loans are recognised in the item “other financial assets”.

** Amounts include data on non-current and current provisions for decommissioning costs of mines and other technological facilities, in the statement of financial position, current provisions for decommissioning costs of mines and other technological facilities are recognised in the item “provisions for liabilities and other charges”.

Note 1.3 Foreign currency transactions and the measurement of items denominated in foreign currencies

The financial statements are presented in Polish zloty (PLN), which is both the functional and presentation currency of the Company. At the moment of initial recognition, foreign currency transactions are translated into the functional currency:

·   at the actual exchange rate applied, i.e. at the buy or sell exchange rate applied by the bank in which the transaction occurs, in the case of the sale or purchase of currencies and the payment of receivables or liabilities;

·    at the average exchange rate set for a given currency, prevailing on the date of the transaction for other transactions. The exchange rate prevailing on the date of the transaction is the average NBP rate announced on the last working day preceding the transaction date.

At the end of each reporting period, foreign currency monetary items are translated at the closing rate prevailing on that date.

Foreign exchange gains or losses on the settlement of foreign currency transactions, and on the measurement of foreign currency monetary assets and liabilities (other than derivatives), are recognised in profit or loss.

Foreign exchange gains or losses on the measurement of foreign currency derivatives are recognised in profit or loss as a fair value measurement, provided they do not represent a change in the fair value of the effective cash flow hedge. In such a case, they are recognised in other comprehensive income in accordance with hedge accounting policies.

Foreign exchange gains or losses on non-monetary items, such as equity instruments classified as financial assets measured at fair value through other comprehensive income, are recognised in other comprehensive income.

Foreign exchange gains or losses on monetary items measured at fair value through profit or loss (e.g. loans granted measured at fair value) are recognised as a part of the fair value measurement.

Note 1.4 Impact of new and amended standards and interpretations

The International Accounting Standards Board approved the following amendments to standards for use from 1 January 2020:

·        Amendments to IAS 1 and IAS 8 on the definition of “material”,

·        Amendments to IFRS 9, IAS 39 and IFRS 7 on the interest rate benchmark reform,

·        Amendments to IFRS 3 on  the definition of a business,

·        Amendments to References to the Conceptual Framework in IFRS.

Up to the date of publication of these financial statements, the aforementioned amendments to the standards were adopted for use by the European Union and they did not have an impact on the Company’s accounting policy or on the separate financial statements.

Moreover, the Company decided about an earlier application of an amendment to IFRS 16 on Covid-19-Related Rent Concessions, which is in force for financial years starting from or after 1 June 2020.

Note 1.5 Published standards and interpretations, which are not yet in force and were not applied earlier by the Company

The Company did not decide to apply early published standards, interpretations or amendments to existing standards before their entry into force in these financial statements.

Other standards and interpretations published but not yet in force:

·        Amendments to IFRS 10 and IAS 28 with respect to the sale or contribution of assets between an investor and its associate or joint venture,

·        IFRS 17 Insurance contracts and amendments to IFRS 17,

·        Amendments to IFRS 4 on extension of the temporary exemption from applying IFRS 9,

·        Amendments to IAS 1 on classification of liabilities as current or non-current.

·        Amendments to IFRS 9, IAS 39, IFRS 7, IFRS 4 and IFRS 16 on  the interest rate benchmark reform – Phase 2,

·        Amendments to IFRS 3 on  references to the Conceptual Framework,

·        Amendments to IAS 16 on proceeds before intended use of an item of property, plant and equipment,

·        Amendments to IAS 37 on cost of fulfilling onerous contracts,

·        Amendments to IAS 1 on the disclosure of accounting policies,

·        Amendments to IAS 8 on the definition of accounting estimates,

·        Annual amendments to IFRS, 2018-2020.

The aforementioned standards, with the exception of amendments to IFRS 4 on extension of the temporary exemption from applying IFRS 9 and amendments to IFRS 9, IAS 39, IFRS 7, IFRS 4 and IFRS 16 on  the interest rate benchmark reform – Phase 2, are awaiting adoption by the European Union. The Company aims to apply all of the amendments at their effective dates. Except for IFRS 17 and amendments to IFRS 4, which will not have an impact on the Company’s financial statements, in the Company’s opinion as at 31 December 2020, these standards will be applicable to its activities in the scope of future economic operations, transactions or other events, towards which the amendments to standards are applicable.

In particular, in the case of amendments to IFRS 9, IAS 39, IFRS 7, IFRS 4 and IFRS 16 on the interest rate benchmark reform – Phase 2, the Company analysed present items in the financial statements with regards to the impact of the IBOR reform on its financial statements. Pursuant to current decisions of entities designated to implement the reform, only the LIBOR rate will be replaced, and it will be replaced by a risk-free rate based on the overnight rate. The Company identified agreements with clauses based on the LIBOR rate and which will be amended following the replacement of the reference rate. These are mainly borrowing agreements (bank loans, loans), deposit agreements, agreements for bank guarantees and letters of credit, factoring agreements and cash pooling transactions. Replacement of the LIBOR rate by an alternative ratio will also result in introducing appendices to the current agreements, analysing the eventual change of interest rates from variable to fixed, introducing changes to internal methodologies and procedures and adapting IT tools to new calculation methods.

Moreover, the Company uses the LIBOR rate to estimate the incremental borrowing rate of the lessee in lease agreements based on USD, for which it is not possible to otherwise determine the lease interest rate, and to measure to fair value  loans granted by applying in the discounting process the LIBOR current market interest rate from the Reuters system. In such cases, there is no formal risk and in the Company’s opinion, the impact of this amendment on the measurement of loans will be immaterial due to the fact that despite the new calculation method, the new reference rate will differ from the LIBOR rate by only 1-2 basis points, depending on the date and currency.

KGHM Polska Miedź S.A. continuously monitors the recommendations of entities leading the IBOR reform. Due to the fact that many issues have not yet been formally regulated, the scale and scope of changes to the aforementioned financial instruments and their impact on the Company’s financial statements cannot currently be determined.

The IBOR reform will not have an impact on our interest rate derivatives, because CCIRS and bonds are based on WIBOR, which will not be replaced by an alternative ratio.

Operating segments

Based on an analysis of the Company’s organisational structure, its system of internal reporting and the management model, it was determined that the Company’s activity constitutes a single operating and reporting segment, which may be defined as “Production of copper, precious metals and other metallurgical products”.

The core business of the Company is the production of copper and silver. Production is a fully integrated process, in which the end-product of one stage is the half-finished product used in the next stage. Copper ore extracted in the mines is transported to concentrators where the enrichment process is carried out. As a result of this process, copper concentrate is produced, which is then supplied to the metallurgical plants where it is smelted and fire refined into anode copper. Then, during the process of electrolytic refining, the anode copper is converted into copper cathodes, which are a commercial product, or a material to produce wire rod.

 Anode slimes, which arise from the process of copper electrorefining, is a raw material used to produce precious metals. Lead-bearing dust which is generated from the smelting processes is used to produce lead. Nickel sulphate and copper sulphate are recovered from the processing of used electrolyte. Gases generated from the smelting furnaces are used to produce sulphuric acid. Economic use is also made of smelter slags, which are sold as road-building materials.

Settlements between organisational units are carried out based on measurement of production at cost, and as a result the internal organisational units (i.e. mines, concentrators, metallurgical plants) in the production cycle do not generate profit on sales.

The financial data prepared for management accounting purposes is based on the same accounting policies which are used to prepare the financial statements. The Management Board of the Company, which is responsible for allocating resources and for the financial results of the Company, regularly reviews financial reports in the process of making major operational decisions.

The organisational structure of KGHM Polska Miedź S.A. has 11 Divisions, including: mines, concentrators, metallurgical  plants and the Head Office. The Head Office carries out sales of the Company’s basic products, i.e. electrolytic copper cathodes, wire rod and silver, and support functions, particularly including the management of financial assets, centralised finance and accounting services, marketing, legal and other services.

The Management Board of the Company assesses a segment’s performance based on Adjusted EBITDA and the profit or loss for the period. The manner of calculating Adjusted EBITDA is presented in the table “Reconciliation of Adjusted EBITDA”.

Production of main products

*C1 cost reflects ore mining and processing costs, transport costs, the minerals extraction tax, administrative expenses during the mining phase and smelter treatment and refining charges (TC/RC) less by-product value. C1 cost was calculated using the average exchange rate by the NBP (arithmetical average of daily quotations per the NBP’s tables).

Segment financial results

*Cost of products, merchandise and materials sold plus selling costs and administrative expenses.

Reconciliation of “Adjusted EBITDA” (which is not defined in IFRSs) with “Profit/(loss) for the period” (which is defined in IFRSs) and “Profit on sales” is presented in the following tables:

Reconciliation of Adjusted EBITDA

* The Company defines adjusted EBITDA as profit/loss for the period pursuant to IFRS, excluding income tax (current and deferred), finance income and (costs), other operating income and (costs),  depreciation/amortisation and recognition/reversal of impairment losses on property, plant and equipment included in the cost of sales, selling costs and administrative expenses.

Segment assets and liabilities