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Integrated Report of KGHM Polska Miedź S.A.
and the KGHM Polska Miedź S.A. Group
for 2020

3.1 Impairment of assets as at 31 December 2020

In 2020, the COVID-19 (coronavirus) pandemic was spreading across the world, and its impact was noticeable in many areas. Detailed information on the impact of COVID–19 on the Group’s operations is presented in note 12.12.

Among others, due to the coronavirus market indices drastically fell. The share price of KGHM Polska Miedź S.A. in 2020 initially fell to PLN 49.40 (on 12 March 2020) or by 48% as compared to the share price from the end of 2019 and then rose to PLN 183.00 as at 31 December 2020. In 2020, the WIG and WIG20 indices on 12 March 2020 fell by 36% and 39%, and on 31 December 2020 by 1% and 8% as compared to 30 December 2019, respectively.

As a result, the Parent Entity’s market capitalisation increased from PLN 19 116 million to PLN 36 600 million, and therefore as at 31 December 2020 it was 74% above the value of the net assets of the Group.

The drop in share prices caused by the COVID-19 pandemic affected shares of companies in the majority of sectors, in various sectors of the economy, and reflected investor uncertainty as to the future. This was confirmed by the increase in the value of typically conservative instruments such as gold and the exchange rates of certain currencies.

From the perspective of the Parent Entity’s operations, the copper price is the first and foremost key factor. From the start of the pandemic, this metal was substantially undervalued. As at 31 December 2019, the price of copper amounted to 6 156 USD/t, and during 2020, as at 23 March 2020 it had fallen to 4 618 USD/t. Nonetheless, as time passed, with the inflow of more hopeful information as respects demand for this commodity, prices returned to their level at the start of 2020 and on 31 December 2020 the copper price reached the level of 7 742 USD/t.

The share prices of companies involved in the mining and processing of copper are strongly correlated with the price of this metal. The decrease in the market capitalisation of companies in this sector, including KGHM Polska Miedź S.A., was therefore of a temporary nature, and reflected the initial panic of investors related with the coronavirus pandemic and the associated drop in the prices of the major metals. Once it became evident that the pandemic would not have a significant impact, on either the production or sales of these entities, share prices returned to their former levels and then increased alongside the increase in metal prices.

It is also worth mentioning that in the case of the Polish assets, of significance are PLN-expressed metals prices, which are also affected by the USD/PLN exchange rate. Fluctuations in the price of copper related to the volatility on the financial markets, whose origins may often be found not only in macroeconomics but also in geopolitics, are usually to a large extent offset by changes in the USD/PLN exchange rate.

Since the outbreak of the pandemic at the turn of February and March 2020, KGHM Polska Miedź S.A. has maintained full operational capability and has been advancing its production and sales plans.

Analysis of the occurrence of indications with respect to the international assets of the Group (the KGHM INTERNATIONAL LTD. Group) also indicated the copper price as a key factor from the point of view of the operations of the KGHM INTERNATIONAL LTD. Group. Nonetheless, despite the temporary fall in the first half of 2020 of metals prices which lead directly to lower revenues of the international assets, there were no indications identified to perform impairment testing. The Group undertook austerity measures aimed at mitigating the negative impact of the decrease in revenues. A number of procedures aimed at swift identification of infected persons and at limiting the spread of COVID-19 were introduced. This enabled the avoidance of outbreaks of the disease and uninterrupted production.

COVID-19 did not disrupt the activities of any of the mines and did not lead to any decrease in mining production.

As a result of the assessment, it was judged that there was no relation in the first half of 2020 between the temporary fall in share price of KGHM Polska Miedź S.A. both in terms of the activities of KGHM Polska Miedź S.A. in Poland as well as abroad.

Due to the uncertainty and the significant volatility of basic economic parameters, including metals prices and currency exchange rates, and dynamic development of the pandemic situation in Poland and globally, and its impact on the economic situation, the Parent Entity is continuously monitoring the global situation in order to assess its potential impact on the Group.

In the current period, the Management Board of the Parent Entity analysed indications for all international assets of the KGHM INTERNATIONAL LTD. Group and did not identify a need to perform impairment testing, with the exception of the Franke mine. As a result of the identification of indications of a possible change in the recoverable amount of the Franke mine, the Parent Entity’s Management Board performed impairment testing of this asset. The key indication to perform impairment testing was a change in the technical and economic parameters of the Franke mine with respect to production volumes, assumed operating costs and the level of capital expenditures during the mine life.

The key indications that the recoverable amount of the Franke mine may be lower than the carrying amount,
and therefore it may be necessary to recognise an additional impairment loss, were:

  • the level of capital expenditures during the life of the Franke mine,
  • the volume of production of the Franke mine.

To determine the recoverable amount of assets during the testing, the method of discounted cash flows to the value in use was used for the CGU Franke.

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Basic macroeconomic assumptions adopted in the impairment testing – metal prices

Price paths were adopted on the basis of long-term forecasts available from financial and analytical institutions.
A specified forecast was prepared for the period 2021 – 2023, in which currently mining operations are planned:

  • for copper – 6 300 – 6 500 USD/t;

  • for gold – 1 600 – 1 900 USD/oz;

  • for nickel – 6.25 – 7.00 USD/lb.

 

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Key assumptions used for recoverable amount estimation of assets of
CGU Franke

Assumption Franke
Mine life / forecast period (in years) 3
Level of copper production during mine life(kt) 29
Level of nickel production during mine life (kt) –
Level of gold production during mine life (koz t) –
Capital expenditures to be incurred during mine life(USD million) 5
Applied discount rate for assets in the operational phase (real rate after taxation)* 10.5%
* Data is presented after taxation, despite the measurement model of value in use. The application of data before taxation does not have a significant impact on the recoverable amount of assets of CGU Franke.

 

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Key factors responsible for modification of technical and economic assumptions

Franke Due to a substantial change in market conditions and exploration work conducted, the Company is in the process of analysing alternative means of mining the sulphide deposits held, i.e. flotation and leaching (SX/EW). Both methods are characterised by differing production costs, required investment expenditures and production results. As a result the decision was made to exclude the sulphide ore from production plans. Following the completion of analysis and selection of the method of further exploitation, the decision to include utilisation of the sulphide ore in the plans will be re-considered.

 

Results of the test performed as at 31 December 2020 are presented in the following table:

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OWSP Carrying amount Recoverable amount Impairment loss
USD m PLN mn USD m PLN mn USD m PLN mn
Franke* (8) (30) (20) (75) 12 45
* the carrying amount was calculated as book value of fixed assets tested in CGU Franke, decreased by the provision for future decommissioning costs of mines of USD 20 million (PLN 75 million). The recoverable amount was calculated as a value in use for CGU Franke, decreased by the provision for future decommissioning costs of CGU Franke, which amounts to USD 20 million (PLN 75 million).

 

As a result of the conducted test, an impairment loss on the CGU Franke was recognised in the items: “Other operating costs” in the amount of PLN 37 million and “Cost of sales” in the amount of PLN 8 million.

In the current period, due to indications of the possibility of changes in the recoverable amount of the property, plant and equipment and intangible assets of the company WPEC S.A., the Company performed impairment testing on these assets. The key indication to perform impairment testing in the current reporting period was a disclosure of information on the possible delay of commissioning of the company’s investment in a new heat source in Legnica. The carrying amount of the property, plant and equipment and intangible assets of WPEC S.A. as at 31 December 2020 amounted to PLN 157 million. For the purpose of estimating the recoverable amount, in the conducted test the value in use of the CGU was measured, using the DCF (discounted cash flows) method.

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Basic assumptions adopted for impairment testing

Assumption Level adopted in testing
Specified forecast period 2021-2030
Average operating margin during the specified forecast period 0.02%
Capital expenditures during the specified forecast period PLN 90 million
Discount rate* 2.86% (real rate after taxation)
Growth rate following the forecast period 0%
* Data is presented after taxation, despite the measurement model of value in use. The application of data before taxation does not have an impact on the recoverable amount.

 

The adopted level of capital expenditures during the forecast period mainly concerns the realisation of a task – Modernisation of a heat supply system for the Legnica city.

Currently applied prices and price rates applied in tariffs for heat were used in the revenue forecast for the years 2021 – 2030. Due to the fact that from 2023 the company aims to change the heat generation technology in Legnica while retaining the method of shaping prices required by law, it will recalculate the entire heat price system, being able to use in this regard average heat prices announced by the President of the Energy Regulatory Office, recognised in the process of setting the tariffs as reference levels.

For the forecast of costs for the years 2021 – 2030, the change in the heat generation technology in Legnica from 2023 will have a significant impact, and in particular:

  • the  decrease in costs of raw materials and production processes of a coal-based economy and the associated current maintenance, operations, overhauls and shut-downs;
  • a decrease in costs of CO2 emissions by approx. 50%;
  • reorganisation of employment – the switch to a natural gas-based technology does not require maintaining the same amount of employees as is required by a coal-based economy – this concerns both the heat production unit as well as maintenance services.

As the result of the above assumptions, the EBIT level was as follows:

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Years 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030
EBIT -15 -11 -7 -5 -1 1 2 3 4 5

 

The EBIT value in 2030 is a basis to calculate free cash flows necessary to settle the residual value, which amounts to PLN 107 million.

As a result of the impairment testing conducted on property, plant and equipment and intangible assets, the recoverable amount of assets was determined to be at the level of PLN 116 million, which was lower than the carrying amount of the tested assets, which was the basis for recognising an impairment loss on “Cost of sales” in the amount of PLN 41 million.

The measurement of non-current assets and intangible assets of the company indicated a significant sensitivity to the adopted discount rates and the measurement of the residual value, which was determined based on EBIT from 2030. The following table presents the impact of changes to these parameters on the measurement of the assets.

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Sensitivity analysis of the recoverable amount of property, plant and equipment and intangible assets of WPEC w Legnicy S.A.

Recoverable amount by a given discount rate
lower by 1 pp. per test higher by 1 pp.
Discount rate 2.86 % (test) 193 116 78
Recoverable amount by a given change in EBIT
lower by 5 pp. per test higher by 5 pp.
EBIT PLN 5 million (test) 112 116 122

 

In order to monitor the risk of impairment of the operating assets in subsequent reporting periods, it was determined that the recoverable amount would be equal to the carrying amount of assets if the discount rate fell by 0.63% or if EBIT increased by 38%.

The outbreak of the COVID-19 pandemic had a substantial impact on the Group’s secondary activities with respect to the providing of spa services by the following companies (CGUs): Uzdrowiska Kłodzkie S.A. – Grupa PGU, Uzdrowisko Połczyn Grupa PGU S.A., Uzdrowisko Cieplice Sp. z o.o. – Grupa PGU, Uzdrowisko Świeradów – Czerniawa Sp. z o.o. – Grupa PGU.

In 2020, there were significant disruptions to the on-going operations of these companies related to the mandatory lockdown and restrictions of activities implemented by the Decrees of the Minister of Health. Decisions were made to temporarily suspend the activities of individual facilities. Companies were subjected to a temporary prohibition
on conducting activities in the spring period (March-May/June) and in the winter period (from November).

The restrictions related to COVID-19 resulted in a decrease in revenues in 2020 in the spa companies of approx. 38% and in the hotel companies of 45% as compared to the revenues in 2019, and as compared to the revenue plan at the level of 41% and 43%, respectively.

The economic impact of this situation, meaning the losses of spa companies incurred in 2020, which significantly deviate from budgetary targets, represented a key indication to conduct impairment testing of the non-current assets of the spa companies. For the purpose of estimating the recoverable amount, in the conducted test the value in use of the cash generating units, comprised of property, plant and equipment and intangible assets of all of the aforementioned companies, was measured using the DCF method, i.e. the method of discounted cash flows.

 

The results of the conducted tests are presented in the following table:

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OWSP Carrying amount Recoverable amount Impairment loss
Uzdrowiska Kłodzkie S.A. – Grupa PGU 180 129 51
Uzdrowisko Połczyn Grupa PGU S.A 72 54 25

Uzdrowisko Cieplice Sp. z o.o. – Grupa PGU

 40 30 10

Uzdrowisko Świeradów – Czerniawa Sp. z o.o. – Grupa PGU

 52 44 8

 

As a result of the tests conducted, an impairment loss on non-current assets was recognised in the total amount of PLN 94 million – by comparing the carrying amount with the recoverable amount, excluding Uzdrowisko Połczyn Grupa PGU S.A. As a result of the cautious approach to the measurement, an impairment loss on Uzdrowisko Połczyn Grupa PGU S.A. which was recognised in the first half of 2020 remained in the amount of PLN 25 million, despite the fact that the recoverable amount indicated the reversal of an impairment loss in the amount of PLN 7 million.

The impairment loss was recognised in the items: “Other operating costs” in the amount of PLN 2 million and “Cost of sales” in the amount of PLN 92 million.

The recoverable amount of individual CGUs indicated a significant sensitivity to changes in the adopted discount rate, the average EBITDA margin, and the growth rate following the forecast period. Due to the very conservative approach in testing with respect to financial projections for the years 2021 – 2026, the Company refrained from testing the sensitivity of the recoverable amount during the lockdown period. The sensitivity to the change in level of revenues is reflected in the sensitivity to changes in the EBITDA margin.

The impact of the other key assumptions is immaterial. The impact of changes to key parameters on the recoverable amount of individual CGUs is presented in the following table:

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Recoverable amount
Average EBITDA margin during the forecast period decrease by 2 pp. per test increase by 2 pp.
Uzdrowiska Kłodzkie S.A. – Grupa PGU 84 129 176
Uzdrowisko Połczyn Grupa PGU S.A. 43 54 66
Uzdrowisko Cieplice Sp. z o.o. – Grupa PGU 23 30 38
Uzdrowisko Świeradów – Czerniawa Sp. z o.o. – Grupa PGU 36 44 52
Average discount rate during the forecast period

decrease by 1 pp.

 per test increase by 1 pp.
Uzdrowiska Kłodzkie S.A. – Grupa PGU 165 129 105
Uzdrowisko Połczyn Grupa PGU S.A. 67 54 45
Uzdrowisko Cieplice Sp. z o.o. – Grupa PGU 37 30 26
Uzdrowisko Świeradów – Czerniawa Sp. z o.o. – Grupa PGU 53 44 37
Growth rate following the forecast period

decrease by 1 pp.

 per test increase by 1 pp.
Uzdrowiska Kłodzkie S.A. – Grupa PGU 110 129 157
Uzdrowisko Połczyn Grupa PGU S.A. 47 54 63
Uzdrowisko Cieplice Sp. z o.o. – Grupa PGU 27 30 35
Uzdrowisko Świeradów – Czerniawa Sp. z o.o. – Grupa PGU 39 44 50

 

In order to monitor the risk of further impairment of operating assets in subsequent reporting periods as well as to monitor the possibility of reversing the impairment loss, it was determined that the recoverable amount would be equal to the carrying amount of individual companies if the discount rate were to be as presented below:

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Uzdrowiska Kłodzkie S.A. – Grupa PGU 6.34%
Uzdrowisko Połczyn Grupa PGU S.A. 7.00%
Uzdrowisko Cieplice Sp. z o.o. – Grupa PGU 7.03%
Uzdrowisko Świeradów – Czerniawa Sp. z o.o. – Grupa PGU 7.58%

The market capitalisation of the subsidiary Interferie S.A. in 2020 was below the carrying amount of the company’s net assets, which in accordance with the adopted accounting policy was recognised by the company to be an indication to perform impairment testing of the company’s assets (the carrying amount of the tested assets was PLN 146 million). In order to assess the impairment, the Company identified the following CGUs: INTERFERIE in Ustronie Morskie – Leisure and Sanatorium Cechsztyn, INTERFERIE in Kołobrzeg Leisure and Sanatorium Chalkozyn, INTERFERIE in Dąbki Sanatorium Argentyt, INTERFERIE in Świeradów Zdrój – Hotel Malachit, INTERFERIE Hotel in Głogów and INTERFERIE Hotel Bornit in Szklarska Poręba. In order to assess the impairment, the fair value of the assets was estimated on the basis of the sum of future cash flows of individual CGUs discounted by the rate estimated on the basis of ratios used by the hotel industry, with the exception of CGU INTERFERIE Hotel in Głogów, CGU INTERFERIE Hotel Malachit in Świeradów Zdrój and CGU INTERFERIE Hotel Bornit in Szklarska Poręba, for which the fair value was determined on the basis of valuation reports.

The fair value was classified to level 3 of the fair value hierarchy.

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Basic assumptions adopted for impairment testing

Assumption Level adopted in testing
Forecast period*
INTERFERIE in Ustronie Morskie – Leisure and Sanatorium Cechsztyn 2021-2025
INTERFERIE in Kołobrzeg Leisure and Sanatorium Chalkozyn 2021-2032
INTERFERIE in Dąbki Sanatorium Argentyt 2021-2031
Notional discount rate for tests based on the DCF method during the specified forecast period and in the residual period** 9.12%
Notional growth rate following the specified forecast period 2.00%
Average operating margin
– during the specified forecast period:
INTERFERIE in Ustronie Morskie – Leisure and Sanatorium Cechsztyn 24%
INTERFERIE in Kołobrzeg Leisure and Sanatorium Chalkozyn 31%
INTERFERIE in Dąbki Sanatorium Argentyt 36%
– in the residual period:
INTERFERIE in Ustronie Morskie – Leisure and Sanatorium Cechsztyn 28%
INTERFERIE in Kołobrzeg Leisure and Sanatorium Chalkozyn 44%
INTERFERIE in Dąbki Sanatorium Argentyt  37%
*The difference in the forecast periods arises from the realisation of investment projects in the Argentyt facility and Chalkozyn.
** Data is presented after taxation, despite the measurement model of value in use. The application of data before taxation does not have an impact on the recoverable amount.

 

As a result of the impairment testing of the company’s assets, the estimated fair value of the assets was determined to be higher than their carrying amount, which did not provide a basis to recognise an impairment loss, which is presented in the table below.

The measurement indicated a significant sensitivity of fair value to adopted discount rates, growth rates following the forecast period and volatility of operating profit in the forecasted period of the following CGUs. The sensitivity to changes in the level of revenues, arising from the lockdown period, is reflected in the sensitivity to changes in the operating profit.

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Sensitivity analysis of fair value
CGU Carrying amount Recoverable amount Discount rate Operating profit
higher by 6% lower by 6% higher by 6% lower by 6%
INTERFERIE in Ustronie Morskie – Leisure and Sanatorium Cechsztyn 10 15 14 17 16 14
INTERFERIE in Kołobrzeg Leisure and Sanatorium Chalkozyn 19 39 33 47 44 35
INTERFERIE in Dąbki Sanatorium Argentyt 69 107 100 116 113 101
CGU Carrying amount Recoverable amount Notional growth rate following the specified forecast period
1% 3%
INTERFERIE in Ustronie Morskie – Leisure and Sanatorium Cechsztyn 10 15 14 17
INTERFERIE in Kołobrzeg Leisure and Sanatorium Chalkozyn 19 39 33 47
INTERFERIE in Dąbki Sanatorium Argentyt 69 107 101 115

 

The discount rate and a change in the operating profit, alongside which the value of assets would be equal to the carrying amount is as follows:

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Level of change in assumptions implicating an impairment loss
CGU Increase in discount rate
(by pp.)		 Percentage decrease in
operating profit
INTERFERIE in Ustronie Morskie – Leisure and Sanatorium Cechsztyn 3.8 36.5
INTERFERIE in Kołobrzeg Leisure and Sanatorium Chalkozyn 2.2 25.9
INTERFERIE in Dąbki Sanatorium Argentyt 4.1 37.5

 

Costs to sell were adopted in the total amount of 3% (including: cost of legal services, real estate agency and other charges related to the sales transaction).

A valuation report was prepared for the property of INTERFERIE in Głogów, estimating the fair value of the subject of measurement at PLN 2.5 million (PLN 2.4 million after including the 3% costs to sell). The valuation was prepared using the comparative approach, the average price adjustment method and, for the land element , the pairs comparison method. As at 31 December 2020, the carrying amount of the hotel(value of fixed assets, intangible assets and fixed assets under construction) is PLN 2.3 million.

A valuation report was prepared for the property of INTERFERIE Hotel Bornit in Szklarska Poręba, estimating the fair value of the subject of measurement to amount to PLN 25.9 million. The valuation was prepared using the comparative approach, the average price adjustment method and the pairs comparison method.  As at 31 December 2020, the carrying amount  of the hotel (value of fixed assets, intangible assets and fixed assets under construction) is PLN 23.8 million.

A valuation report was prepared for the property of INTERFERIE Hotel Malachit in Świeradów Zdrój, estimating the fair value of the subject of measurement to amount to PLN 23.1 million. The valuation was prepared using the comparative approach, and the pairs comparison method. As at 31 December 2020, the carrying amount of the hotel (value of fixed assets, intangible assets and fixed assets under construction) is PLN 22.2 million.

As at 31 December 2020, due to indications of the possibility of changes in the recoverable amount of property, plant and equipment of the company POL-MIEDŹ TRANS Sp. z o.o., the Company performed impairment testing on these assets. The key indication to perform a test was a loss incurred in 2020, deviating from the financial results assumed for that period. The result of the conducted test did not indicate a need to increase the impairment loss recognised as at 30 June 2020.

The carrying amount of property, plant and equipment of POL-MIEDŹ TRANS Sp. z o.o. as at 30 June 2020 amounted to PLN 246 million. For the purpose of estimating the recoverable amount, in the conducted test the value in use of the cash generating unit was measured using the DCF method i.e. the method of discounted cash flows.

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2.7 Non-current assets – geographical breakdown
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3.2 Impairment of assets as at 31 December 2019

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